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RUSSIAN MONEY LAUNDERING

Y 4.B 22/1:106-38

Russian Honey Laundering, Serial No. 106-38, Septe

21, 22, 1999 ( 106-1 Hearina) rm^ir^

BEFORE THE

COMMITTEE ON BANKING AND
FINANCIAL SERVICES

U.S. HOUSE OF REPRESENTATIVES

ONE HUNDRED SIXTH CONGRESS

FIRST SESSION

SEPTEMBER 21, 22, 1999

Printed for the use of the Committee on Banking and Financial Services

Serial No. 106-38

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DEPOSITORY

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RUSSIAN MONEY LAUNDERING

HEARINGS

BEFORE THE

COMMITTEE ON BANKING AND
FINANCIAL SERVICES

U.S. HOUSE OP REPRESENTATIVES

ONE HUNDRED SKTH CONGRESS

FIRST SESSION

SEPTEMBER 21, 22, 1999

Printed for the use of the Committee on Banking and Financial Services

Serial No. 106-38

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HOUSE COMMITTEE ON BANKING AND FINANCIAL SERVICES

JAMES A. LEACH, Iowa, Chairman
BILL McCOLLUM, Florida, Vice Chairman

MARGE ROUKEMA, New Jersey

DOUG K. BEREUTER, Nebraska

RICHARD H. BAKER, Louisiana

RICK LAZIO, New York

SPENCER BACHUS III, Alabama

MICHAEL N. CASTLE, Delaware

PETER T. KING, New York

TOM CAMPBELL, California

EDWARD R. ROYCE, California

FRANK D. LUCAS, Oklahoma

JACK METCALF, Washington

ROBERT W. NEY, Ohio

BOB BARR, Georgia

SUE W. KELLY, New York

RON PAUL, Texas

DAVE WELDON, Florida

JIM RYUN, Kansas

MERRILL COOK, Utah

BOB RILEY, Alabama

RICK HILL, Montana

STEVEN C. LaTOURETTE, Ohio

DONALD A. MANZULLO, IlUnois

WALTER B. JONES Jr., North CaroUna

PAUL RYAN, Wisconsin

DOUG OSE, CaUfomia

JOHN E. SWEENEY, New York

JUDY BIGGERT, IlUnois

LEE TERRY, Nebraska

MARK GREEN, Wisconsin

PATRICK J. TOOMEY. Pennsylvania

JOHN J. LaFALCE, New York
BRUCE F. VENTO, Minnesota
BARNEY FRANK, Massachusetts
PAUL E. KANJORSKI, Pennsylvania
MAXINE WATERS, California
CAROLYN B. MALONEY, New York
LUIS V. GUTIERREZ, Illinois
NYDIA M. VELAZQUEZ, New York
KEN BENTSEN, Texas
JAMES H. MALONEY, Connecticut
DARLENE HOOLEY, Oregon
JULIA M. CARSON, Indiana
ROBERT A. WEYGAND, Rhode Island
BRAD SHERMAN, California
MAX SANDLIN, Texas
GREGORY W. MEEKS, New York
BARBARA LEE, California
VIRGIL H. GOODE Jr., Virginia
FRANK R. MASCARA, Pennsylvania
JAY INSLEE, Washington
JANICE D. SCHAKOWSKY, Illinois
DENNIS MOORE, Kansas
CHARLES A. GONZALEZ, Texas
STEPHANIE TUBBS JONES, Ohio
MICHAEL E. CAPUANO. Massachusetts
MICHAEL P. FORBES, New York

BERNARD SANDERS, Vermont

(II)

CONTENTS

Page

Hearing held on:

September 21, 1999 1

September 22, 1999 109

Appendix:

September 21, 1999 195

September 22, 1999 346

WITNESSES

Tuesday, September 21, 1999

Brovkin, Vladimir, Professor, American University Transnational Crime and

Corruption Center, accompanied by Prof. Louise Shelley 54

deBorchgrave, Amaud, Director, The Global Organized Crime Project, Center

for Strategic and International Studies 88

Ermarth, Fritz W., former CIA Chief Russian Analyst, National Security

Council Official 48

Palmer, Richard L., President, Cachet International, Inc., former CIA Station

Chief 92

Saunders, Paul J., Director, The Nixon Center 52

Shvets, Yuri, Consultant, former KGB agent 81

Summers, Hon. Lawrence H., Secretary, Department of the Treasury 14

Williamson, Anne, Author 84

Woolsey, Hon. R. James, Shea & Gardner, former Director, Central

Intelligence Agency 45

APPENDIX

Prepared statements:

Leach, Hon. James A 196

Biggert, Hon. Judy 216

LaFalce, Hon. John J 217

Maloney, Hon. Carolyn B 226

Royce, Hon. Edward R 227

Velazquez, Hon. Nydia M 229

Waters, Hon. Maxine 232

Brovkin, Prof Vladimir, Prof. Keith Henderson and Prof Louise Shelley,

joint statement 255

deBorchgrave, Amaud (with attachments) 292

Ermarth, Fritz W 249

Palmer, Richard L. (with attachments) 306

Shvets, Yuri 263

Simes, Dimitri K., and Saunders, Paul J., joint statement 251

Summers, Hon. Lawrence H 234

Williamson, Anne 275

Woolsey, Hon. R. James 246

(III)

Page

Additional Material Submitted for the Record

Leach, Hon. James A.:

Letter from Yu Shuratov, Prosecutor General, Russian Federation, Sept.

19, 1999 215

LaFalce, Hon. John J.:

Opening statements before the Committee on Small Business, April 14,

1994, and May 12, 1994 220

Shelley, Prof. Louise:

Written response to questions from Hon. John J. LaFalce 261

del Ponte, Carla, Attorney General, Swiss Confederation, prepared statement 202
Embassy of the Republic of Cyprus, prepared statement 341

WITNESSES

Wednesday, September 22, 1999

Renyi, Thomas A., Chairman of the Board and CEO, The Bank of New

York Company, Inc 152

Robinson, Hon. James K, Assistant Attorney General, Criminal Division,

Department of Justice 116

Shchekochikhin, Yuri, Member of the Russian Ehima, editor of Moscow news-
paper Novaya Gazeta 143

Vitale, Anne T., Managing Director and Deputy General Counsel, Republic
Bank of New York 179

von Gerhke-Thompson, Karon, Vice President, First Columbia Company, Inc. 189

APPENDIX

Prepared statements:

Leach, Hon. James A 347

Bachus, Hon. Spencer 348

Paul, Hon. Ron 350

Roukema, Hon. Marge 356

Waters, Hon. Maxine 357

Renyi, Thomas A 381

Robinson, Hon. James K 359

Vitale, Anne T. (with attachments) 405

von Gerhke-Thompson, Karon 451

Additional Materl\l Submitted for the Record

Paul, Hon. Ron:

"Get Rid of the IMF" Investor's Business Daily Sept. 1, 1999 352

"Skuratov Says IMF Billions Sold on the Si/ St. Petersburg Times,
Sept. 17, 1999 353

Renyi, Thomas A.:

Written reply to questions from Hon. Edward Royce 391

(IV)

RUSSIAN MONEY LAUNDERING

TUESDAY, SEPTEMBER 21, 1999

U.S. House of Representatives,
Committee on Banking and Financial Services,

Washington, DC.

The committee met, pursuant to call, at 10:05 a.m., in room
2128, Rayburn House Office Building, Hon. James A. Leach,
[chairman of the committee], presiding.

Present: Chairman Leach; Representatives Roukema, Bereuter,
Lazio, Bachus, Royce, D. Weldon of Florida, Ryan, Biggert, Terry,
LaFalce, Vento, Frank, Waters, Velazquez, Bentsen, Sandlin,
Inslee, Moore, Jones, and C. Weldon of Pennsylvania.

Chairman Leach. The hearing will come to order.

The committee meets today for its fifth hearing on international
financial issues this year and the third on Russia and corruption
over the last twelve months. The hearings today and tomorrow will
be followed this fall by others dealing specifically with Western fi-
nancial assistance strategy, including the International Monetary
Fund, regulatory issues attendant to preventing financial crimes,
the depth of the crime and corruption problem in Russia, Russian
use of offshore financial institutions and the intertwining of those
institutions with the United States and other Western banks, the
role of public and private United States advisers in Russia's transi-
tion to free markets, the role of the U.S. intelligence community in
monitoring Russia's Central Bank and other monetary and banking
matters, as well as other concerns.

Today, we will begin with an examination of recent allegations
that corrupt Russian groups and individuals have infiltrated West-
ern financial institutions. In this regard, we invited several wit-
nesses who, according to various reports, have material knowledge
of these matters, but who have declined to appear voluntarily be-
fore the committee, including Natasha Kagalovsky, former head of
the Eastern European Division, Bank of New York; Lucy Edwards,
formerly with the London office of the Bank of New York; Bruce
Rappaport, Chairman and CEO of the Bank of New York Inter-
Maritime; Mikhail Khodorkovsky, Russian oil industry executive;
as well as the chairmen of several Western money center banks.

As the hearing process continues, it will be my intention to seek
witness subpoenas where appropriate. We also invited Carla del
Ponte, the former Chief Swiss Prosecutor. She could not come, be-
cause she took up new functions at The Hague yesterday, but she
sent a statement outlining a new aggressive Swiss policy toward
the scourge of money laundering which involves a hard look at

(1)

Russian corruption. I invite the committee's attention to her state-
ment and would ask unanimous consent it be placed in the record.

[The prepared statement of Carla del Ponte can be found on page
202 in the appendix.]

I also invite the committee's attention to a letter from the Honor-
able Yuri Skuratov, the Prosecutor General of Russia, who also was
invited to testify. Mr. Skuratov notes that he is "unfortunately" un-
able to come this week, but observed that he is "deeply convinced
that the forthcoming hearings will allow him to develop valuable
recommendations to the financial and law enforcement structure of
Russia and the United States of America in counteracting infiltra-
tion of dirty money into our financial systems."

Mr. Skuratov has offered his personal cooperation with the com-
mittee's work. Significantly, two days after receiving the commit-
tee's invitation to testify, his apartment in Moscow was ransacked.

It is my intention that the first of our subsequent committee
hearings on Russia will focus on Western assistance strategy for
Russia and the possible diversion or misappropriation of those
funds. Last month, Mr. LaFalce and I commissioned a GAO study
to examine the effectiveness of the $90 billion in Western assist-
ance for Russia, particularly in light of problems of corruption and
the power of the so-called "oligarchs." But recent developments
warrant an additional in-depth investigation of allegations of diver-
sion or misuse of Western assistance.

In this context, I would advise in the strongest possible terms
that the Department of thb Treasury insist on a full and complete
audit of the relationship between the ^ Central Bank of Russia and
the IMF, particularly the activities of the CBR in the foreign ex-
change and treasury markets in the period of July to August 1998.
Failure to do so would undercut any remaining credibility of inter-
national financial institutions dealing with Russia. Likewise, I will
request this week a full GAO audit of U.S. bilateral assistance to
Russia, as well as a review of multilateral assistance efforts.

The global payment system is opaque and anonjonous by design,
and has been made more so by the technological advances of the
past decade. The same technology that has produced such great
benefits for the financial services industry and the world economy
as a whole has also made it enormously difficult to trace the pro-
ceeds of illegal activity once a criminal succeeds in gaining entry
to the payment system. In an era where funds can be transferred
among multiple accounts on multiple continents in the blink of an
eye, the challenges faced by law enforcement agencies, regulators
and financial institutions in trying to track dirty money through
the system are enormous.

In this regard, one of the issues brought forth by recent reports
of large money flows of questionable origin through Western finan-
cial institutions is the legal obligation of U.S. banks to report such
activity to appropriate authorities. Under current law, depository
institutions are required to file so-called "Suspicious Activity Re-
ports," or SARs, with the Treasury Department whenever they be-
come aware of suspicious account activity or possible violations of
law. According to press reports, it was the filing of a SAR by one
of the banks that will be represented at this hearing. Republic Na-
tional Bank of New York, that helped alert law enforcement au-

thorities to the massive funds flow from Russia into other New
York money center banks.

Let me just conclude by stressing that this is a hearing designed
to help Russia and the Russian people. It is not a hearing designed
to embarrass anyone. We want to look to Russia as a country with
a great future, not as a country that appears to be imploding from
within, and for this reason, I would like to take a moment to speak
directly to the Russian people.

[Statement from Chairman Leach in Russian.]

At this point, I would like to introduce a group of Russian parlia-
mentarians who are visiting us this morning. I would like them to
stand.

You are very welcome. Thank you.

[The prepared statement of Hon. James Leach can be found on
page 196 in the appendix.]

Chairman Leach. JMr. LaFalce.

]VIr. LaFalce. IMr. Chairman, I don't know whether to say that
I agree or disagree with those latest remarks of yours, but I am
sure that I agree in large part.

JMr. Frank. Would the gentleman yield?

I would like to just say that some of us are glad now that we
didn't vote for the English-only bill, because it would have gotten
the Chairman in trouble.

]V[r. LaFalce. IMr. Chairman, thank you very much for holding
these extremely important hearings. We have all become aware of
the recent press reports revealing major problems in the areas of
money laundering, diversion of funds, the crime and corruption in
Russia that appear to have reached into the United States banking
system. The situation has called into question the efficacy of our
money laundering statutes and the monitoring capabilities of our
international financial institutions.

I have long been concerned with the serious allegations of crime
and corruption in Russia and the alleged infiltration of the coun-
try's government institutions by organized crime. Indeed, as Chair-
man of the Small Business Committee, I held hearings on this
issue the last year I was Chairman, April 14, 1994, and then on
]VIay 12, 1994, where I had the pleasure of having the then-Assist-
ant Secretary of the Treasury for International Policy and Finan-
cial Institutions, Dr. Summers, and we discussed this issue at con-
siderable length at that time.

With your permission, ]VIr. Chairman, I would like to put into the
record the opening statements that I gave at those two hearings in
April and IMay of 1994.

Chairman Leach. Without objection.

IVIr. LaFalce. While we are not in any position to dictate how a
country should run its internal affairs, we are fully entitled to an
accounting of whether the funds provided by international financial
institutions are to be used for their intended purposes. These funds
involve significant United States taxpayer resources, and it is our
duty to ensure that they are not misused.

At the same time, our National Security Adviser and the stability
of the world's financial system demand our continued constructive
involvement with Russia. As a democracy experiencing growing
pains and still purging itself of the political and economic ghosts

of its Soviet past, Russia continues to need our help. Isolating Rus-
sia and isolating ourselves from Russia would not be the solution.
It would be counterproductive.

And so I see little to gain in the simplistic options some have
suggested of abandoning as substantial and as troubled an econ-
omy as Russia's. I recognize there are challenges to continued en-
gagement, and the memorable words of Sir Winston Churchill more
than a half a century ago still ring true. "I cannot forecast to you
the actions of Russia; it is a riddle wrapped in a mystery inside an
enigma."

However, as painful and frustrating as the process might be, I
know that the ultimate payoffs of our continued engagement with
Russia are far, far greater than the risks. But it is time to ask
some tough questions and to get answers that we need to make our
policy of engagement work much better. We should continue to en-
courage economic and political reform in Russia, but we should also
impose tough conditions on the assistance we give and find better
mechanisms, if at all possible, for monitoring that compliance, and
unless we can obtain the necessary cooperation from Russia to
make that possible, our long-term involvement would be put at
risk.

I think there is one area of our policy that deserves particular
scrutiny and hopefully will teach us some important lessons. I per-
sonally believe that a major part of what went wrong in Russia was
the manner of the privatization program in Russia. This is not a
new refrain for me. I had hearings on the privatization program.
I have discussed this at length; I wrote to the President on this,
and so forth.

Privatization can be very important, and it can first help achieve
greater equity and new opportunity in the distribution of a society's
wealth and assets; and second, can restructure key resources such
as utilities, transportation, banks and trade companies to permit
them to respond to market forces rather than government dictates.
It can build up a small business and medium-size business class
that can build up a middle-income structure within a country, that
is, if it is done right.

But there is another approach to privatization, what I refer to in
my letters to the President and in my hearings in 1994 as Mexican
"patron" privatization and Russian "nomenklatura" privatization,
and that, in considerable part, is unfortunately the road that Rus-
sia took. Russian privatization has most often come to mean the
wholesale transfer of valuable state assets to a small group of ty-
coons who are more interested in taking value out of the country
than investing in it. This type of privatization concentrates wealth
and puts an economy at risk.

Dr. Summers, who testified on this before my Small Business
Committee in 1994, I would appreciate at some point in your pres-
entation today your analysis of what went wrong, what went right,
what we can learn about managing such situations in the future
and dealing with such situations.

Let me now turn to the specific issue of money laundering. Of
the many public policy challenges facing lawmakers, the law en-
forcement community and regulators today, none may represent as
significant a threat to our financial system as money laundering

does. You want to get at the root of crime, follow the money, follow
the money, follow the money.

And the wholesale "cleansing" of illegitimate profits derived from
criminal activities reaches staggering proportions, by some esti-
mates, between $100 and $300 billion in the United States alone
and perhaps one-half trillion worldwide. By comparison, this figure
dwarfs the GDP of many, many nations.

Press reports have now alleged that up to $10 billion of possible
illicit Russian money passed through one bank. That may or may
not be accurate. That may or may not involve appropriate account-
ing— double, triple accounting. It remains to be seen. The facts of
the case are very sketchy. The criminal authorities are investigat-
ing. It would be most premature for us to pass judgment on any
aspect of this case without a full accounting of the facts, and since
there is a criminal investigation taking place, it might be some
time before we have that.

Our Banking Committee did take a good look at money launder-
ing in 1994 when we passed the Money Laundering Suppression
Act. Up until recently, the emphasis on financial institutions' com-
pliance with cumbersome paperwork requirements worked against
the effective enforcement of money laundering laws. The 1994 Act
made the reporting requirements part of the Bank Secrecy Act
more meaningful and more useful to law enforcement.

But even with these targeted changes, we still learn of egregious
cases that our regulatory system is supposed to catch, but misses.
And often they occur in vulnerable emerging democracies like Mex-
ico and Russia, places where the rule of law is still, unfortunately,
not fully consolidated; and when the big cases strike, we begin to
wonder whether the regulatory system, our first line of defense,
truly works.

I do believe, Mr. Chairman, that it would have been productive
for us to examine regulatory issues in this hearing, which are ripe
for revisiting, and I hope that in the very near future the bank reg-
ulators, who are not going to be here either today or tomorrow, will
come before our committee to explain to us what may or may not
be wrong with our current regulatory system. I would like to hear,
for example, from the Federal Reserve, the regulator with respect
to one bank that received a tremendous amount of publicity, the
Bank of New York, for example.

With that, I thank the Chair very much.

Chairman Leach. Well, thank you, John, and let me say that
will be the subject of future hearings, which I outlined at the be-
ginning of my statement.

Does anyone else have an opening statement?

Mr. Bereuter.

Mr. Bereuter. Thank you, Mr. Chairman. While I certainly do
commend you for the obvious need to have the hearings on Russian
money laundering, I appreciate the fact that you and Ranking
Member LaFalce have apparently solicited the assistance of the
General Accounting Office. Like the Banking and Financial Serv-
ices Committee, we share a role in reviewing these issues with the
International Relations Committee. I think that the bilateral as-
sistance programs of the United States also need to be examined.

While this hearing is on Russian money laundering, the Treasury
Department, of course, has the major role for our Government's
participation in making decisions on multilateral development
banks. One of the most important, obviously, is the International
Monetary Fund. I served as the Ranking Member for many years
on the subcommittee responsible for oversight of the multilateral
development banks, including the IMF, and I would urge the
Chairman and Subcommittee Chairman Bachus that this is an ap-
propriate time to examine the performance of the International
Monetary Fund.

In my history here I have never failed to support authorizations
and appropriations for the International Monetary Fund, but in
light of what has happened, I do believe that it is time to hold in
abeyance any further assistance from the International Monetary
Fund to Russia. I also think I would have to cast a vote of no con-
fidence on the International Monetary Fund in their activities.

It is clear to me that they gave bad advice to Korea and Thailand
in the early stages of their financial problems, and thus they com-
plicated the situation in those countries. It is clear to me that bilat-
eral and multilateral funds were used to shore up the election op-
portunities of President Yeltsin to the disadvantage of the Russian
people.

I believe that we certainly need to continue bilateral assistance
programs for rule of law, for democracy building, and for Nunn-
Lugar, working with a variety of governors and local officials that
have managed to escape the ravages of corruption in that country.

All you have to do today is to go to Cyprus to see the impact of
money laundering on its economy. It has become a center of money
laundering for money coming out of the former Soviet Union, in-
cluding Russia. Distinguished former members of Democrat and
Republican Administrations in the past have told us here on Cap-
itol Hill in the last several months that they estimate at least 30
percent of the financial assistance going to Russia has been out-
right stolen — not just misused, but outright stolen — and unlike the
money stolen by the robber barons of the previous century in the
United States, that money was not reinvested in Russia. We are
looking at one track of money laundering activities these new bar-
ons moved out of Russia today.

I do believe it is appropriate for us to examine the IMF and its
role, and certainly to examine the bilateral assistance programs of
the United States aimed at the central government of Russia today.
For the past two years, Russian economists have been telling those
of us involved in the Aspen Institute study seminars for some fif-
teen years, that financial assistance to the Russian central govern-
ment has, in fact, been counterproductive. I urge my colleagues to
think beyond money laundering, where we will focus today, on how
the funds of the International Monetary Fund may have been used
by false accounting, by false reports, by failed promises on the part
of the Russian central government.

Thank you, Mr. Chairman.

Mr. Frank. Mr. Chairman.

Chairman Leach. Mr. Frank.

Mr. Frank. Thank you, Mr. Chairman. There are two levels at
which we have to proceed. One is the very specific inquiry into

what was obviously serious wrongdoing on the part of people with-
in the Russian government and the failure of some oversight mech-
anisms, and I think that is very important that we do that; but
there is a second level, and I think it is important that we balance
them.

The second level is recognition that we are dealing with a major
nuclear armed power and the fact is that there is a tendency, I be-
lieve, not just here, but elsewhere, for Americans to exaggerate the
extent to which we here in Washington can solve all the problems
in the world. We confronted a situation in post-Communist Russia
of grave danger and uncertainty. Indeed, we all do tend to focus on
worst cases, and clearly the degree of theft and the consequent de-
nial of resources to the Russian people is outrageous and should be
focused on.

What we ought also to remember, I remember some of the pre-
dictions that there would be mass starvation, that democracy
would fall, that forces of the old Communist regime would take
over, that a new kind of fascism would take over. There was also
a more serious threat of nuclear proliferation. The second most
heavily armed nuclear power in the history of the world was in this
terrible state, and I say that, because when we come to the ques-
tion of better oversight and better mechanisms, I think we should
be very stringent.

When it comes to the question of American policy in general, I
will be particularly interested to hear people tell me what the al-
ternatives were. Obviously, we faced a very difficult situation — the
world's other superpower, adjusting to not being a superpower, but
still being superpowerful in terms of its nuclear weapons; a nation
which had no tradition of democracy entering democracy; a nation
that had no tradition of a market economy being led to a market
economy — and I don't doubt we should have done better. But there
has to be a consideration of what our alternatives were. There has
to be a consideration of what else we should have done.

I also think we are going to greet our old friend hindsight here
today. Maybe I was absent that day, but I don't remember the day
a motion was made on the floor of the House to cut off all aid to
Russia. I might have been there; I don't remember it. I know many
of us gritted our teeth and regretted some of the things that were
happening, but the notion of — I guess there were two other alter-
natives to what we did in the grand scheme. One was to threaten
the Russians with a cutoff and hope that that would produce better
results. The other would have been to cut them off.

I would like to hear all of those alternatives considered, because
we have both technical and specific function of oversight of the
IMF, but we are also Members of the Congress of the United
States, talking about the broadest, most important strategic foreign
policy questions we have. And I fear that there will be a temptation
to offer no alternatives and simply to be critical of what has hap-
pened.

And, yes, we need to look at how we get better from here, but
the notion that there was some clear-cut and obvious alternative to
what we did, other than trying harder to be clear.

And with regard to the Yeltsin election, obviously I don't think
people should be improperly influencing elections, but I have got to

be honest with you, as I looked at that cast of characters that were
running in Russia, I was rooting hard for Yeltsin. Things, as they
said, have gotten a little bit better. I am under no temptation to
return to the land of my grandparents. I have talked to my Aunt
Frannie. She is happy she is still here and not back in Minsk or
in Moscow.

So I am not suggesting everything is wonderful. I am suggesting
that this policy has not been an unmitigated disaster, that there
has, in fact, been a forestalling of much of the most negative sug-
gestions about what might happen in Russia, and that the perspec-
tive we should take is that in a situation of great difficulty with
very serious constraints on what we could do both bilaterally and
through the IMF, let us look at how we could have done what we
did better. And if someone has some grand alternative that they
were advocating at the time and we didn't follow, I will be glad to
hear about it.

Chairman Leach. Thank you, Mr. Frank.

Mr. Bachus.

Mr. Bachus. Thank you. Welcome, Secretary Summers.

I would submit to my colleagues on the Banking Committee and
to you that what Russia needs is a Moses, and I will say that
again. What Russia needs is a Moses. They are coming from com-
munism to democracy. They need leadership. They need a leader.

If you look at India, you had Gandhi. If you look at Czecho-
slovakia, which is a wonderful example of a country that in 1989
had Havel step forward. You have got Walesa in Poland; even some
might say. Nelson Mandela. But what Russia needs is a leader.

I think a lot of us thought that Yeltsin was that leader and
maybe it is the obstacles he has faced, but until we have that
strong leadership in Russia, what we have seen is predictable. We
have been having hearings for three years. We have heard about
the mafia. We have heard about the oligarchs. We have heard
about money laundering. We have heard about generals selling
weapons, lack of effective government.

There is a lot of consternation. There is a lot of concern. There
is a lot of the wringing of the hands here. There is a lot of ques-
tioning, a lot of groping for answers and solutions, what I would
call "chasing of rabbits," because there is just so much we can do,
what Mr. Frank said. If there is not strong leadership in Russia,
our options are limited.

We met in June and we talked about Russia and the economic
situation there, and I said at that time what Russia needed was
time, and that is when I first compared their situation to the chil-
dren of Israel wandering in the desert for forty years, trjdng to get
ready to govern themselves; and saying that — and I introduced at
that time a junior high schoolgirl's dissertation in Russia where
she compared the Russian people to the children of Israel and the
fact that they needed time. And she said that "they had forty years,
and we may need forty years."

They need time, but they also need strong leadership. There was
an article recently that said, "Who Lost Russia?" and I think that
was inappropriate. But I do think it is appropriate for us to ask
about who is leading Russia, who are we dealing with, who is call-
ing the shots behind the scene and the IMF. If we continue to

pump money into this country and the leadership is not there, we
are going to continue to lose. So I would simply say that I am not
sure we can have an accounting or an explanation from Russia.

How valid is it going to be? Can we rely on it? They have been
giving us explanations. They have been accounting for what they
have been doing, and we found out that a lot of it wasn't true. I
would say this. I think what we need to do at this time is to focus
on their leadership and not intervene, but until there is leadership
in place in Russia, I am not sure what we can do.

So that would be at least another angle.

Chairman Leach. Thank you. Does anyone else wish to make a
statement?

Ms. Velazquez.

Ms. Velazquez. I ask unanimous consent to enter my entire
statement into the record.

Chairman Leach. Without objection, so ordered.

Ms. Velazquez. I would like to applaud you for holding this
hearing in such a timely manner. While it is important that we ex-
plore the effect of Russian organized crime and money laundering,
I would like to take this time to stress another aspect of the money
laundering equation that seems to have been lost in this discussion
so far, money laundering's close relationship to drug dealers.

In the United States alone, estimates put the amount of drug
profits moving through our financial system as high as $100 billion.
Money laundering provides the life of the drug trade, allowing deal-
ers and other criminals to thrive and have devastating social and
economic consequences in our communities. That is why some of
my colleagues on this committee, including Chairman Leach, Rank-
ing Member LaFalce, Representatives Roukema, Bachus and King,
joined with me in passing the Money Laundering and Financial
Strategy Act which was signed into law last year.

This Act takes three important steps in combining money laun-
dering. First, it authorizes funding to help State and local officials
combat money laundering. Second, it establishes high-intensity fi-
nancial crime areas which will help concentrate the law enforce-
ment resources in the areas where they are most needed. Finally,
the Act mandates the Treasury Secretary to develop the first com-
prehensive national strategy to combat money laundering.

All three of these initiatives are important in our fight against
money laundering, but from a Federal standpoint the most impor-
tant initiative is the strategy. Tracking down these criminals is all
about following the money. The money laundering strategy, for the
first time, provides law enforcement officials a road map to follow
the money.

The money laundering strategy was due in February of this year.
Although it took a while to complete, we have a good basis to con-
tinue our fight against money laundering, and I want to commend
Secretary Summers for completing the first comprehensive anti-
money laundering strategy in our Nation's history. The Treasury
Department was ready to deliver the strategy to Congress at the
end of last week, but I asked that it be postponed, because Mem-
bers were out of town as a result of Hurricane Floyd. It is my un-
derstanding that the strategy will be unveiled later this week.

Since becoming Treasury Secretary, Mr. Summers has shown
that this strategy is a priority for his administration. I thank him,
as well as Deputy Secretary Eizenstat, Under Secretary Jim John-
son, Deputy Assistant Secretary Medina and Chief Counsel Ste-
phen McHale. For those who have questioned our need for a na-
tional money laundering strategy, the developments of the Bank of
New York case demonstrate the critical need.

One of the weaknesses in the current system is the lack of co-
operation between financial institutions and law enforcement offi-
cials. In the case before us today, the Bank of New York did not
file a suspicious activity report until after the Justice Department
had subpoenaed account records. Had there been better cooperation
between bank officials and Federal law enforcement, steps could
have been taken sooner. In order for money laundering detection
to work in the United States, there must be cooperation between
banks and law enforcement officials.

In most money laundering cases, the banks are in the best posi-
tion to know if illegal activities are taking place. The anti-money
laundering strategy addresses these issues and lists among its pri-
orities enhancing the regulatory and combative efforts between fi-
nancial institutions and law enforcement officials.

The most important aspect of this strategy may simply be that
it is the first comprehensive national strategy. It puts in writing
the goal for our fight against money laundering and how the var-
ious Federal agencies charged with fighting money laundering
should work together. The strategy is a blueprint for building a co-
herent and effective anti-money laundering force, something clearly
lacking now.

Thank you again, Mr. Chairman, for holding this important hear-
ing, and I look forward to hearing from our witnesses.

Chairman Leach. Thank you.

Mr. ROYCE. Mr. Chairman.

Chairman Leach. One second. The Chair would like to suggest
that if we can we hold opening statements to be as brief as pos-
sible— and let me say that we have a long day of hearings; and I
recognize, as Chair, I started out with a long statement, but I am
going to ask two minutes only, please.

The gentleman from California.

Mr. Royce. I will be brief, Mr. Chairman. Thank you.

What we are examining today is a very serious issue, one that
goes to the heart of U.S. -Russia relations, and it is worth noting,
I think, that Russian corruption and the Administration's response
to that challenge is not a new issue.

Three years ago this committee held a hearing on organized
crime in Russia and the threat to international banking systems.
We heard from representatives of the FBI, the financial crimes en-
forcement network, the Department of Justice, and we heard from
recognized authorities on Russia; and during that hearing, I
brought up questions of extreme capital flight and, most impor-
tantly, of accountability with respect to International Monetary
Fund loans. Specifically, I raised concerns about the lack of money
laundering laws in Russia and our own inability to impose stand-
ards on foreign banking institutions, and I questioned what guar-
antees we had that billions of dollars in IMF and international

loans to Russia reached their intended recipients and were not, in-
stead, diverted outside the country by organized crime.

Two years prior to that, in 1994, I said our aid to Russia should
be conditioned on assurances from Russia's government, and our
own, that all is being done that can be done with respect to mon-
itoring and countering the growing threat of these crime syndicates
before they can choke off the infant democratic experiment in the
former Soviet Union. This is about countering a real threat to the
chances for a successful transition in the former Soviet Union, and
it is about stopping an international crime wave before it crests on
our own shores.

Here we are five years and billions of dollars later and these
questions may have risen to the level of a scandal. Unfortunately,
not much has been done in the last five years. IMF Managing Di-
rector Michael Camdessus recently said it is impossible to deter-
mine whether specific capital flows from Russia, whether legal or
illegal, come from a particular in-flow, such as IMF loans or export
earnings. Apparently, once the IMF funds are released to the Cen-
tral Bank there is no tracking where the money — in this case, $10
billion — goes.

American taxpayers deserve better. However, the New York
Times recently reported that Clinton Administration officials
learned of allegations of Russian money laundering at the Bank of
New York five months earlier than they acknowledged, yet the Ad-
ministration continued to rally for more aid to Russia, even though
they were fully aware that these funds were not reaching the in-
tended recipients and the intended recipients were the Russian
people.

Instead of making a genuine effort on critically needed structural
reform, the emphasis was placed on touting feel-good stories about
dubious successes in the Russian economy. So, in the end, funds
flowed to a Russia where corruption ran rampant. Anti-money
laundering laws were actually vetoed by Boris Yeltsin, and politi-
cians did little but throw up their hands and say, "Well, that is the
way things are in Russia."

What I am interested in finding out today is whether the Admin-
istration has acquiesced to the cycle of corruption in Russia so it
could claim reform in name only. Policies that turn a blind eye to
real reform do irreparable damage to the process of democracy
building. This does a tremendous disservice to the people of this
country and to the people of Russia, and I look forward to hearing
from our witnesses today.

Thank you, Mr. Chairman.

Chairman Leach. Thank you very much for that very thoughtful
statement.

Ms. Waters, who was helping this committee on money launder-
ing matters. Ms. Waters.

Ms. Waters. Thank you very much, Mr. Chairman and Mem-
bers.

While there needs to be much said about the IMF and the way
they have handled Russia, I am not going to concentrate my few
minutes talking about the IMF's role in what appears to be the
laundering of money by our banks, except to say it is obvious that
there is a policy that Russia is too important to fail and that we

did turn a blind eye while the IMF shuttled about $11 billion into
Russia and ignored the fact that corruption and money laundering
was going on.

I am going to concentrate my remarks on what we do here in this
country about the laundering of drug money, because I do believe
that we should have advanced a lot further than we have advanced
in dealing with the laundering of drug money right here in our own
country. We have had great opportunities to do so, and we are all
to blame that we haven't done a better job. So I am not at all
shocked that we have to convene once again to address the most
serious issue of money laundering in the United States financial in-
stitutions.

As many of you know, I have worked very hard on the money
laundering issue, particularly as it relates to drug trafficking. I was
an original cosponsor of H.R. 405, the Money Laundering Deter-
rence Act of 1988, and had four amendments which were included
in the bill. I spoke in opposition to the Citicorp/Travelers merger
due to the ongoing Department of Justice investigation into money
laundering and other potential financial crimes involving Raul Sali-
nas and Citibank. I have held press conferences and sent numerous
letters to the Department of Justice, the United States President
and Members of the House Banking and Financial Services Com-
mittee. I have appeared on television shows and spoken on radio
programs to discuss money laundering, drug trafficking and their
devastating impact on America's communities.

Last year, I introduced legislation to include money laundering
as a priority when the Federal Reserve considers bank applications
for mergers or acquisitions, and I have recently introduced the In-
tegrity in Banking and Money Laundering Prevention Act of 1999
to help eliminate money laundering in the banking industry.

The House Banking and Financial Services Committee can do
more to ensure that our financial institutions are free from abuse
by alleged drug traffickers such as Semoin Mogilevitch, one of the
leading figures in the investigation of money laundering at the
Bank of New York.

My remarks today will focus on three problems with our current
anti-money laundering laws and legislative solutions to each. Law
enforcement officials have stated that one of the biggest problems
they encounter in money laundering investigations, particularly
where there is an international flow of funds such as in the case
where money flows from Russia to offshore accounts and then into
accounts in the United States, is the inability to reconstruct an
audit trail for prosecution purposes. This was a major obstacle in
the case of Raul Salinas and is an obstacle for law enforcement in
the present money laundering scandal.

I have identified two areas that should be addressed to aid law
enforcement in money laundering investigations. The first is proper
maintenance of something known as "concentration accounts," and
the second is adequate documentation of the beneficial owner of off-
shore accounts. Concentration accounts are business accounts
maintained by a financial institution in which funds from various
sources are commingled.

In July 1997, the Federal Reserve Bank of New York issued, and
I quote: "sound practice guidelines" that highlighted concentration

accounts as a weakness in money laundering controls. The Federal
Reserve reported that concentration accounts could, I quote: "mask
unusual transaction and flows," making it nearly impossible to es-
tablish the ownership of all funds in a single account.

During last year's money laundering hearings on H.R. 405, I
asked Herbert A. Biern, a witness from the Federal Reserve's
Board of Governors, Division of Banking Supervision, about the po-
tential for money laundering through concentration accounts. He
stated that banking organizations should make sure that they have
clear records about fund transfers, and if banks want to use a con-
centration account, also called a "suspense" or "omnibus account,"
then they should keep proper records.

My legislative proposal would require that banks who use con-
centration accounts maintain all accounts in such a way as to en-
sure that the name of the account holder and the number of the
account are associated with all account activity of the account hold-
er. This requirement will aid law enforcement and help to protect
banks from money laundering abuses.

Similar attention must be paid to offshore accounts. Offshore ac-
counts are havens for money laundering and drug trafficker. In the
case of Raul Salinas, a phony offshore company named Troika was
set up which allowed Salinas to hide the flow of illegal drug money.

In the present case, one of the key accounts through which
money is suspected of being laundered belongs to a company called
Benex, which investigators believe filtered money from Semoin
Mogilevitch, the alleged kingpin of Russian organized crime.

According to investigators, it is likely to take months before they
can sift through the documents and penetrate the complex web of
offshore companies and holding companies to determine precisely
where the money came from and where it went. My legislation
would aid law enforcement efforts by requiring enhanced record-
keeping of beneficial owners of such offshore accounts.

Finally, I want to address the penalties assessed against banks
convicted of money laundering. We know that they laundered
money. During an April 15, 1999, hearing on trends in money laun-
dering, I asked a Department of Justice witness how many United
States or foreign depository institutions had lost their charter as a
result of a conviction or a civil penalty imposed for money launder-
ing. The response I received from the U.S. Department of Justice
is that no U.S. or foreign depository institution has lost its license
as a result of money laundering activities in the United States.

Well, my legislation would give courts the ability to double the
sentence against persons and institutions that violate United
States anti-money laundering laws with respect to foreign high-in-
tensity money laundering areas. If we do not have the courage to
address the practice in our own financial institutions, the money
laundering abuses will only get worse.

I have the greatest respect for you, Mr. Chairman, but I don't
have any confidence that we are going to do anything about the
laundering of drug money in our banks. They are too big to touch,
such as in the case of Citibank, and Russia is too big to fail. So
I am going to go through this, but I want to tell you, we have not
shown that we have the courage or the desire or the will to do any-
thing about the laundering of drug money, and we have known for

a long time about the Russian mafia, what they were doing on Wall
Street, and we have simply turned a blind eye. I am disappointed,
and at the point that it is now revealed, we have another hearing.
Well, I will sit through it.

With that, I yield back the balance of my time.

Chairman Leach. The gentlelady has no time to yield back.

The Chair would like to ask unanimous consent that his earlier
statement be revised and extended — I had quite a lot that I didn't
add to the record — and that the statements of all other Members
be placed in the record at this point.

I would also like to note that we have prepared a rather com-
prehensive new approach to strengthening our money laundering
laws. I am prepared to introduce today and ask that any Members
interested in cosponsoring contact me or my staff.

At this point I would like to ask unanimous consent Mrs.
Biggert, you had a statement to place in the record. Is it all right
to do so?

[The prepared statement of Hon. Judy Biggert can be found on
page 216 in the appendix.]

Chairman Leach. And let me just stress as strongly as I can that
money laundering may seem to be a modest crime to some people,
but it is a window looking at far graver crimes. It is for that reason
that it is of such significance.

At this point, I would like to welcome for his first appearance be-
fore this committee as the Secretary of the United States Treasury,
Mr. Lawrence Summers.

Mr. Summers, please proceed as you see fit.

STATEMENT OF HON. LAWRENCE H. SUMMERS, SECRETARY,
DEPARTMENT OF THE TREASURY

Mr. Summers. Thank you very much, Mr. Chairman, Ranking
Member LaFalce, Members of the committee. I have a rather
lengthy statement that I prepared for the record which I will just
attempt to summarize here and would ask you to include the en-
tirety of the statement.

Chairman Leach. Without objection, that will occur.

Mr. Summers. I am grateful for this opportunity to discuss finan-
cial policies toward Russia and the issue of money laundering more
generally in light of recent reports and allegations regarding cor-
ruption, capital flight and money laundering.

Let my say at the outset, in the wake of recent allegations of
money laundering through a U.S. bank, that we are fully commit-
ted to the full investigation of these allegations, to the prosecution
of any crimes uncovered and to strengthening our capacity to com-
bat future abuses.

I want to focus on four issues in my testimony: the broad context
of U.S. financial policy toward Russia; the capital flight, money
laundering and corruption in Russia; the very different financial
policy toward Russia that we have had in place since the traumatic
events of August, 1998; and our broader efforts to combat corrup-
tion and money laundering worldwide.

Turning to our policy toward Russia, it would be difficult to over-
estimate the seriousness of the problems facing Russia today. At
the same time, the American people have an enormous national se-

curity, economic and law enforcement stake in a peaceful and suc-
cessful transition to a law-based democratic market economy in
Russia.

The United States has pursued these interests, both bilaterally
and multilaterally, in a number of ways. We have sought to do so
in a fashion that is both hard-headed and clear-eyed and puts
America's interests at the forefront.

The crucial multilateral tool to support economic reform in Rus-
sia has been conditional finance from the international financial in-
stitutions. Our support for official financing for Russia has been
grounded on the recognition that we cannot want successful market
reform in Russia more than Russia's government and its people do.

We have sought, in supporting the conditionality of the inter-
national financial institutions, to balance what would be best eco-
nomically with what is politically realistic in the Russia context;
between the desire to effect meaningful reform and the need to
avoid taking decisions ourselves that Russia must ultimately em-
brace for itself; between the goal of dismantling the apparatus of
communism and the need to cushion the impact of the process of
change.

A review of the record of lending to Russia by the IMF and World
Bank shows that these institutions have withheld financing when
previously agreed-upon conditions have not been met, including
twice in the context of the presidential election year of 1996 and
including for nearly a year following the events of August, 1998.

No one here in the United States, and certainly not in Russia,
can be satisfied with economic developments in Russia during the
past decade. But I think it is also fair to say, Mr. Chairman, that
if not all our goals or Russia's goals have been fulfilled, it is cer-
tainly equally true that not all of the fears for Russia that were
common a decade ago have materialized. Russia is a very different
country than it was a decade ago, with nuclear weapons no longer
targeted at our cities; 1,500 nuclear weapons deactivated; with
military spending one-tenth the level that it had reached in 1988.
With 70 percent of Russia's economy output now generated by the
private sector, the Communist system has essentially been disman-
tled and the state's tentacles of central control have been largely
dislodged. Economic distortions created by energy prices that were
held far below world prices and the easy availability of subsidized
credits have been greatly reduced.

Let me turn to the specific and interrelated questions of corrup-
tion, capital flight and international money laundering in Russia.

Russia inherited huge corruption problems from the distorted
economic system of the Soviet era. Since then, it has failed to es-
tablish a rule of law and a credible law enforcement system, and
corruption is a continuing and serious problem. It is one that we
have recognized in the policies that we have supported and urged,
both in terms of structural and institutional reform, to bring about
the rule of law and, as I described in more detail in my written tes-
timony, the placing of specific conditions aimed at reducing oppor-
tunities for corruption made possible by Russia's economic and
legal system.

Let me give an example that comes from the Soviet expert,.
Anders Aslund. In 1992, a barrel of oil cost in Russia the same'

amount as a pack of Marlboros. In that economic environment, the
pervasive purchase of oil at a low domestic price and sale at a large
international price was a major source of profiteering. Along with
subsidized credits, in one estimate it represented corruption equal
to 80 percent of GDP in that year.

The international financial institutions have worked to bring
about more open markets, prices approaching international levels,
limitations on the supply of subsidized credit. The creation of a
functioning — of a working tax system — has been centrally directed
at combatting the opportunities for corruption that those distor-
tions have permitted.

If corruption is often indicative of a vote of no confidence in a
state's capacity to enforce the rule of law, capital flight is a vote
of no confidence in a country's economic policies. Capital flight
drains perhaps $15 billion a year from the Russian economy. It will
only be effectively addressed when an environment is created in
which there are economic opportunities in Russia that make Rus-
sians want to keep their money at home.

These issues, capital flight and corruption, come together in the
serious crime of money laundering. The current allegations involv-
ing money laundering through major American financial institu-
tions only reinforce our recognition that widespread corruption in
Russia can pose a significant danger to our interests.

In a telephone conversation earlier this month, President Clinton
stressed to President Yeltsin the importance of swiftly designing
and enacting a strong anti-money laundering law. President
Yeltsin assured President Clinton that this was indeed his intent.
In the context of ongoing IMF engagement with Russia, the United
States and other major IMF shareholders will be monitoring Rus-
sian developments in this area closely.

Let me turn to the current stance of policy on the part of the
IMF and the other international financial institutions toward Rus-
sia.

Following the economic and financial collapse of August, 1998,
the International Monetary Fund ceased lending to Russia and did
not provide any financial assistance for a year. The financial ap-
proach going forward had shifted in a major way from providing
new loans, new net funds to Russia in order to promote economic
reform to instead partially refinancing debt coming due to the IMF
as a part of an attempt to support economic stability in Russia. We
have insisted that any support from the international financial in-
stitutions be based on an adequate accounting and adequate safe-
guards.

The new IMF program is in that way very different from all of
Russia's prior programs. The funds were provided in the form of
Special Drawing Rights and paid into an account at the IMF that
can be used only to repay Russian obligations to the fund. Under
the new IMF agreement, Russia is to repay about $2 billion to the
IMF over the next eighteen months and refinance the remaining
funds coming due, thereby reducing Russia's net indebtedness to
the IMF.

Our continued support for IMF or World Bank engagement, even
with these safeguards in Russia, is predicated on Russia's compli-

ance with crucial conditions to ensure financial integrity and to
safeguard any assistance provided in refinancing.

The nature of the audits with respect to subsidiaries of the Rus-
sian Central Bank and with respect to the procedures of the Rus-
sian Central Bank in granting credits and so forth are described
in some detail in my testimony.

Going forward, we in the G-7 will be calling for authoritative re-
views by the IMF and World Bank to identify ways more generally
around the world to strengthen safeguards on the use of IMF and
World Bank funds, especially in cases where there is a heightened
risk of diversion or misappropriations.

Let me just say, in response to the Chairman's inquiry, that we
are fully prepared to cooperate in investigations with respect to
what is taking place with respect to IMF funds in Russia; though
I would caution that some of the assertions that one encounters go
beyond what has yet been established by evidence, although this is
something that is obviously the subject of continuing close atten-
tion.

As we work to promote the adoption of sound economic reforms
in Russia and around the world, combatting corruption and pursu-
ing policies to reduce crime will be essential components of these
efforts, including through our national and bilateral programs.

This Thursday, as has been mentioned, in line with the legisla-
tion in which Congresswoman Velazquez played such a crucial role,
the Treasury and Justice Departments will release the Administra-
tion's first National Money Laundering Strategy report. It contains
several dozen recommendations to combat the types of criminal ac-
tivity that we are discussing here today. And based on what I have
been able to learn this morning, Mr. Chairman, I would say that
it covers quite similar ground to your own legislation. This is an
area where we certainly look forward to working together.

During the past six-and-a-half years, we have faced very difficult
questions of balance and very difficult choices in managing the
United States relationship with Russia and in combatting corrup-
tion and money laundering globally. It has always been clear that
Russia's transformation from a centrally-planned Communist em-
pire, ruled by the law of force, to a democratic, market-based econ-
omy, based on the force of law, would take a great deal of time.
We have sought, while always recognizing that Russia will shape
its own destiny, to pursue what is the very great American inter-
ests in Russia's outcome in a hard-headed and prudent way, as we
will continue to do going forward.

I welcome the opportunity for dialogue that this hearing presents
on how we can all address this very crucial U.S. foreign policy and
financial policy issue.

Thank you, Mr. Chairman.

[The prepared statement of Hon. Lawrence H. Summers can be
found on page 234 in the appendix.]

Chairman Leach. I thank you, Mr. Secretary.

Let me say that I think the premise of the American policy of
wanting to help Russia has always been correct. The effect of
American policy is somewhat more in doubt. One of the great ques-
tions is, when one sees that efforts are counter-productive, does one
shift gears? That is a profound question.

A further witness of ours, an expert on Russia, Ann Williamson,
has taped a series of interviews with former Russian officials. One
Russian official, a finance minister named Boris Feodorov, reported
that he asked Treasury not to include an IMF loan — this would be
five or six years ago — of $1.5 billion, since he argued the loan
would undermine his attempts to discipline the finance ministry.
He suggested that corruption might be an issue.

Other Russians, namely Sokolov, the chief auditor of the Russian
Federation of Chamber of Accounts, which is an institution roughly
equivalent to the GAO, has argued that he believed that virtually
all of the funds coming into Russia would be diverted for less-than-
perfect purposes.

And so the question is, what do you, as a Secretary of the Treas-
ury, believe should be the United States' policy in terms of a cir-
cumstance where a foreign government appears to be entwined in
a culture of corruption? Do we continue to aid it, because Russia
is too big to fail, because a potential leader, as flawed as he may
be, seems less flawed than others? Or do we say, "enough is
enough," that no taxpayer an3rwhere can sustain the kind of "belt-
way" investments where taxpayer funds are revolved in foreign
bank accounts and then returned to this country in the hands of
foreign corrupt officials or entrepreneurs? What does our Govern-
ment do at this point?

Mr. Summers. Mr. Chairman, let me distinguish the issues of
policy going forward from the retrospective issues that were im-
plicit in a portion of your question.

Going forward in my testimony I laid out the approach that is
in place, which is an approach that does not provide new funds to
Russia, but that refinances a portion of the debt of Russia that is
coming due to the IMF so that Russia is on net making repayments
in this period. Because, given the pervasive problems in the rule
of law in Russia, we do not believe at this point that the provision
of new funds would be constructive and indeed could run into some
of the risks that you described in your question.

With respect to the earlier period, a balance was always struck
recognizing that the provision of funds, which, as in the case of all
IMF programs, goes to Central Bank reserves which are used in
the currency markets to support stability, would advance the cause
of creating an economic environment in Russia in which capital
flight would be limited. And indeed, if one looks to the period from
1993 to 1996 to 1997, what one sees is that Russia went from a
country that was experiencing massive capital flight to a country
that for several years was experiencing net capital inflows, reflect-
ing the fact that there had been some improvements in the eco-
nomic environment.

In light of the policy errors that took place in 1997, the change
in international conditions toward emerging markets with the
Asian financial crisis, the fall in price of oil and the unwillingness
of the Russian Duma to support reforms that would bring the
budget under control, Russia was ultimately unable to maintain
stability, and one saw the economic and financial collapse of Au-
gust, 1998. That collapse, as serious as it was, should not obscure
the fact that during this period one saw quite substantial economic
change, from inflation rates in the thousands of percents, from

markets that were largely closed to the outside world, from state-
directed plans to a market-based system. Those changes, which op-
erated to reduce capital flight, were part of what these inter-
national financial institution programs were about. We certainly
supported them in a way that was mindful of the risks, but also
mindful of the alternatives that could not have materialized with-
out the engagement between the international financial institu-
tions and Russia.

Chairman Leach. I appreciate that perspective, but I think there
needs to be a bit of an add-on, which is that, for the last decade,
Russia has lost 40 percent of its GNP value. So one can hardly de-
fine this as success. When we look at the last IMF funding, over
$600 million went for the repayment of loans, which is an implicit
acknowledgment, I believe, that prior loans had failed, and that it
strikes me that it is pretty hard to defend that particular policy.

Let me just end with the notion that somehow, as we look at this
"beltway" of funds — and they are stunning. When you have a 40
percent drop in GNP it is because capital flight has exceeded West-
ern investment, which has been significant. And there does not ap-
pear to be a concerted effort to put an end to that capital flight.

There also — in a Western sense, we have always believed that
public service involves some sort of idealistic — you have what ap-
pears to be a self-serving nature of some in the Russia oligarchy
elite that is very troubling. I don't think that it can be simply
looked at, because some alternatives look worse over a period of
time. It looks as if we have been ensconcing a system that maybe
deserves a little more discipline. On retrospective, do you think
that is the case or not?

Mr. Summers. Let me say, first, Mr. Chairman, that with respect
to the question of capital flight, it is best to think of capital flight
in Russia or in another country not so much as a cause of economic
problems, but as a symptom of economic problems. Because Rus-
sia's economy wasn't working, because property rights weren't se-
cure, because people could not have confidence in the value of the
ruble, they chose to leave their money offshore or to take their
money offshore. So capital flight was much less the cause of Rus-
sia's economic problems in this period than it was a consequence
of an economy that, as I think we have all recognized, wasn't work-
ing in a satisfactory way.

Now, there will be debates forever, I suspect, about what eco-
nomic policies Russia could best have pursued. There would be
those who argue that, had they moved more rapidly with the steps
of reform, the results would have been better. There would be oth-
ers that will argue had they moved more slowly the results would
have been better. I am not sure that we will ever know the answer
to that counterfactual question, but I certainly tried to make clear
that no one here or in Russia can be satisfied with the performance
of Russia's economy.

Equally, I think it has to be recognized that the historically un-
precedented magnitude of the four transitions, from empire to
state, from dictatorship to democracy, from a criminal state to a
law-based state, and from a Communist economy without private
property to a private market economy, almost certainly made it in-
evitable that there would be very, very substantial economic dis-

ruptions and problems during the transition, and the attempt of
the international financial institutions was to influence that proc-
ess in as constructive a way as possible.

Chairman Leach. I appreciate that.

My time has expired. There are many other Members who want
to ask questions, and we may come back.

I am compelled to note that what may be a system also causes
a problem. That is fairly undeniable.

Second, there is an analogy, and this is something that Ms. Wa-
ters has been working on, some of the Mexico issues. I remember
years ago, after being visited by a number of very extraordinary
Mexican officials, hearing the observations from the Mexican ex-
perts, they are extraordinarily well educated, but more than a few
are crooks.

Top Treasury officials have described some of the Russian team
as a "dream team", but the evidence is emerging that part of their
dream is self-serving. That is why I stress that public service is not
about self-serving aggrandizement. It must be about idealism. It
appears in this country that idealism as an element has elapsed,
and that is one of the reasons there is such cynicism and hopeless-
ness appearing in Russia today. And that is the single most impor-
tant issue in many regards for American national security and for-
eign policy.

Mr. LaFalce.

Mr. LaFalce. Thank you very much, Mr. Chairman.

It is extremely difficult to fashion a policy and implement a pol-
icy when you are taking the former Soviet Republic, see it disinte-
grate into its several component states, and then watch and try to
assist in the transition from what has been a centrally-planned
economy to some form of market-based economy. The world does
not have much experience with that, so it was difficult.

Of course, we knew it was difficult at the time, and we knew
what those difficulties were, too. We knew that crime was running
rampant. We knew that they did not have adequate laws or any
laws or enforcement with respect to privacy rights, property rights,
bankruptcy laws, a transparency with respect to its banking sys-
tem, enforcement mechanisms, adherence to international norms
and standards, and so forth.

It also seems to me, though, that one of our underlying premises
should have been, let's not make this situation worse. There is
going to be economic dislocations. Let's mitigate the dislocations,
though, so that we do not see people going with less bread. We do
not see people going with less heat. We do not see a decline in GDP
if at all possible.

So I think this argues for a more gradual transition rather than
for an immediate transition. So it is damn the torpedoes, full speed
ahead. So long as we can get rid of the state-owned industries, they
ultimately will be better off, and ultimately it might be a long time-
frame. You have to look at the difficulties that come in between.

That is history. We have seen some good, and we have seen some
bad. What are we doing today, though, within the present context?
What are our imperatives? As one country, the United States, what
are our imperatives as a country within the international forum
that exists with respect to conditioning future involvement with

Russia and countries such as Russia? By involvement, I mean a
broad spectrum of activities including financial assistance.

What are we demanding with respect to reforms of their central
bank, with respect to not just passage of legislation, but enforce-
ment of that legislation with respect to property rights, with re-
spect to the bankruptcy laws so there could not be precipitous with-
drawal of monies. I guess we can't impose our will on another coun-
try, but we can refrain from certain types of involvement with a
country unless it is done in the right way.

Do you care to respond?

Mr. Summers. Congressman, let me answer your question in
three ways. First, we are insisting on absolute safeguards with re-
spect to our own money, namely the United States' own money, the
IMF's money which is in part our money, in the insistence that
that money not get to Russia, that it move from one IMF account
to another account and that is all the money that is provided.

Mr. LaFalce. What do you mean, from one IMF account to an-
other? For what purpose then?

Mr. Summers. For the purpose of repaying the IMF.

Mr. LaFalce. So we are giving loans to finance pre-existing

Mr. Summers. In effect, we are extending the portion of the debt
that is coming due from Russia to the IMF. The remainder will be
paid back directly from Russia to the IMF, and a portion is being
refinanced, is being extended. Other than that, from the IMF, there
is no new

Mr. LaFalce. So you are saying that the United States' policy
and the international financial institution's policy is no new money
to Russia? The only thing that we will do is engage in some paper
transactions for the refinancing or at least scheduling the existing
indebtedness?

Mr. Summers. That is the situation of the IMF.

With respect to the development banks, there are a limited num-
ber of loans that are directed at specific projects and specific pur-
poses with closely monitored accounting for the use of the funds.
The safety net for coal workers would be one example of such a
program for the World Bank. EBRD assistance to funds for small
businesses would be another example of such a program. So it is
bottom-up.

Mr. LaFalce. The total scheme of things, how much assistance
would be given respectively through the IMF, which is exclusively
for the refinancing of existing debt, and how much new money for
these discrete purposes through the other international financial
institutions — the World Bank, the European Bank — for reconstruc-
tion, development, and so forth?

Mr. Summers. Over the next year, I would expect it to be in the
range of — someone behind me may correct me — a billion dollars
oyer the next year. In toto, if you add all of the international finan-
cial institutions together, Russia would be making a net repayment
to all of the international financial institutions taken together over
the next year. And then, of course, U.S. bilateral assistance and,
niore generally, the international financial community bilateral as-
sistance on questions like building a functioning tax system, estab-
lishing a bankruptcy law, establishing protections for minority
shareholders at the Russian SAC and so forth will be conducted in

a continuing and active way, because that is part of what I think
we would all agree is the long-run imperative here, which is the
establishment of the rule of law.

Mr. LaFalce. Which comes first, the chicken or the egg? In other
words, are we going to establish some of these actions as pre-
conditions to the future assistance? That is the first question — or
conditions subsequent.

The second question is, you referred to the absolute safeguards.
At least with respect to the IMF future assistance, do we have ei-
ther absolute or some form of safeguards with respect to non-IMF
or other, either bilateral or international, financial institutions' as-
sistance?

Mr. Summers. With respect to the other international financial
institutions' assistance, there are very strong safeguards with re-
spect to the accounting. Certainly with respect to U.S. bilateral as-
sistance there are as well.

Mr. LaFalce. What is the nature of those safeguards?

Mr. Summers. The nature of those safeguards, for example, in
the bilateral assistance is that, rather than providing money, what
you are doing is providing services and relying on a whole set of
U.S. contracting procedures and so forth.

Mr. LaFalce. What about when money is provided?

Mr. Summers. I would be happy to give you an answer in writing
of the detailed procedures at USAID, but the essence of those pro-
cedures is that the money is provided only on the basis of a clear
receipt for specific services rendered. There is no money provided
to Russian institutions for their general use as they see fit. It is
specific funds for specific services.

Chairman Leach. Thank you, Mr. LaFalce.

The Chair has not set a perfect model, but he is at this point
going to insist on maintaining the five-minute rule. We have a
number of witnesses today.

Mr. Bereuter.

Mr. Bereuter. Thank you, Mr. Chairman.

With regard to the comments about the drop in GDP, just to put
that in perspective for the American people, Russia is still the fifth
most populous country, with a GDP less than the Netherlands or
Denmark, and the GDP is still going down.

Mr. Secretary, congratulations on your assumption of the
secretaryship. I regret that it is this subject that brings you here,
but we wish you well as you pursue that job.

I have three questions that I think you could address briefly. You
mentioned we were looking for adequate accounting, of course, for
the IMF funds. Given the size of that highly paid bureaucracy —
some would say a bloated bureaucracy at IMF-— do we have a sys-
temic auditing that you would regard as adequate at the IMF? You
also may wish to enlarge that to the World Bank.

Second, has the Treasury Department or anyone in the Adminis-
tration spoken to the Russian prosecutor general, Mr. Skuratov, to
try to confirm his accusation of Kremlin officials receiving kick-
backs and improper market speculation on high-yield treasuries?

And, third, Mr. E. Waymarry, head of the political section of the
U.S. Embassy in Moscow from 1991 to 1994, claimed in a recent
article that he, "Personally saw dozens of draft reports on economic

problems that were never transmitted while the Treasury rep-
resentative blocked the negative assessment of Russia's capacity to
introducing a market economy rapidly by arguing that would give
Larry Summers a heart attack."

Have you looked into whether or not there was an effort by
Treasury people not to report what the real situation was in Russia
to you when you were an Under Secretary and your boss was Sec-
retary Rubin?

Mr. Summers. Let me, if I could, Congressman Bereuter, answer
the questions in the reverse of the order that you asked them.

With respect to that report, it is the first that I have heard of
anything like that. While we in the Treasury like to think that we
have a lot of influence in the U.S. Government, I assure you that
we do not have the capacity to censor the reporting from U.S. Em-
bassies. And certainly of all possible rationales for limiting report-
ing, the fact that it would shake the preconceptions of a policy offi-
cial in Washington is the best reason for a report to be sent and
certainly not for it not to be sent.

Mr. Bereuter. Mr. Secretary, I am talking about self-censor. I
am not suggesting that anyone told them not to say it.

Mr. Summers. I am not aware — it would be a very serious prob-
lem during a period when I am Secretary, as it would have been
during the period when Secretary Rubin was Secretary, as it would
have been during the period when Secretary Bentsen was Sec-
retary, if anyone sought to prevent bad news from reaching Wash-
ington. That is the opposite of everything that we stand for as we
try to work with our staffs. I don't know where that report came
from.

With respect to the prosecutor general in Russia, I have not had
any conversations with him. We have sought, I think appropriately,
to compartmentalize the law enforcement channel with respect to
ongoing investigations from the policy channel as these things are
pursued. I think that is a question that would be best directed to-
ward the officials with direct investigative responsibility. It may be
a question that is better addressed in closed session.

With respect to our satisfaction with respect to the reports that
we have received, let me first say that we have strongly supported
the idea that these audits are not to be done by IMF staff, but done
by independent international accounting firms for some of the rea-
sons that you cite. There have been reports that have come in that
have provided clarity with respect to some issues, but there are im-
portant outstanding issues. That is why my testimony is clear that
there is a set of further conditions that have to be satisfied, not
just in the economic policy area, but in the integrity area, before
we would be in a position to support any further disbursements of
this refinancing kind to Russia.

Chairman Leach. Thank you, Mr. Bereuter.

Mr. Frank.

Mr. Frank. Mr. Secretary, I noticed in the testimony that we are
going to be getting later that one of the witnesses noted that Amer-
ican pressure did have an impact on Russian behavior elsewhere.
He mentions the cooperation in Bosnia and Kosovo. He mentions
dealing with Iran, some macro-economic policy. Obviously, we have
the relative quiescence in the expansion of NATO.

I raise those because this argues the fact that pressures suc-
ceeded there — and most recently many of us were enormously
grateful for the Russian position with regard to Kosovo, because I
think that helped get America out of an extraordinarily excruciat-
ing moral, as well as political, dilemma. He argues that the fact
that pressure succeeded there means that pressure would have suc-
ceeded here.

My question is whether to some extent the opposite might be the
case. That is, if you simply accumulate pressure in all fronts with-
out any tradeoffs that you are less likely to win. I don't say this
critically. I say this critically of our structure. I wish you were here
with Mr. Berger and Ms. Albright. Anybody who thinks we should
have made policy toward Russia abstractly, solely on these kinds
of economic and technical monetary problems, is wrong. Clearly, we
have a whole complex of issues with Russia.

So the question is, was there — I think it would be perfectly good,
but my own sense is, yeah, people may have said, "Boy, this Yeltsin
is no day at the beach, but on the other hand he is better than a
week out in the snow" and we have some other things on the fire
here. To what extent are tradeoffs and these other kinds of consid-
erations involved? To what extent — when you talk about, for in-
stance, cutting off Russia, if we got to the point where on these
grounds that have been advanced that you thought Russia should
be cut off from some of your areas, would you instruct your rep-
resentative of the IMF to so vote without first checking or without
talking to Secretary Albright or National Security Advisor Berger,
not to mention the President?

Mr. Summers. I think your very thoughtful question. Congress-
man Frank, really points out why making policy in this area and
other related areas is so difficult. One has to distinguish, if you
like, between degrees of unsatisfactoriness.

As I referenced in my testimony, you have to make a balance be-
tween what would be economically best and what is politically real-
istic. I think, on the one hand, as we manage a relationship, a fi-
nancial relationship with any country, it is not possible to do so
outside of the context of the overall issues that that country poses.
On the other hand, we have also sought to remember that the
international financial institutions have a basic core mission and
have a basic responsibility with respect to the management of
moneies.

So, no, we would not under any circumstance tolerate money
being provided without conditions or under circumstances in which
the expectation was that it would simply be diverted and not be
used for its intended purpose. That is a basic question of financial
integrity.

At the same time, certainly, in carrying on policy, one has to be
mindful of the broad context. I think, as your comments suggest,
the broad context is one where, if we had not gotten ever3i:hing
that we wanted in terms of Russia policy choices, it is also true
that many of the things that were feared not very long ago — hyper-
inflation, collapse of the Russian state or return to communism and
so forth, major nationalist revival in the anti-American faction
have also not materialized. It is that balance that we have tried to

keep in mind as we carried on the policy on an Administration-
wide basis.

Mr. Frank. I think that part of what you are saying is one way
to deal with this is to move toward more project-specific funding of
the World Bank, Nunn-Lugar specific funding to deal with non-pro-
liferation, so that to some extent the future orientation is less gen-
eral budgetary support, more very specific and strings attached tar-
geted aid. I think that is a reasonable direction to go in and may
be the way to deal with this dilemma.

The second question I have is just an abstract one. The Chair-
man mentioned the drop in Russian GDP, and I realize it is a very
significant drop. I would be interested — this is more of an abstract
than an academic question, to retrogress you for a minute.

One of the things we used to hear — and I will finish up in 30 sec-
onds, Mr. Chairman — one of the things that we used to hear was
that much of what the Russians produced in the old days, nobody
wanted. Now, some of that obviously was military, but there were
other goods. Do we have an analysis — obviously, there has been a
drop in the production. But do we have an analysis of how much
of that is a real drop in the quality of life?

Everything that I ever read when I was studying the Soviet
Union beforehand said there should have been a drop in the pro-
duction of a lot of things which were produced and nobody wanted
them. So do we have an estimate of what the real economic situa-
tion is in Russia today as it was in the last days of the overture?

Mr. Summers. I will get you a more precise answer in writing
than I can give here.

In general, in approaching your question, I would just emphasize
these points: 25 percent of GNP previously on some estimates was
military spending, and the loss of that presumably doesn't have a
direct impact on Russian living standards.

Mr. Frank. And a positive impact on ours.

Mr. Summers. It is difficult to know how to think about wages
that were higher relative to the price of meat than they are today,
but you couldn't get meat at the store even after you waited in line
for several hours. So what you see is the wage goes less far in
terms of meat, but the reality is that you couldn't get the meat at
the posted price before, and, if you could, it was with hours of wait-
ing.

All of that said, I don't think anyone can escape the conclusion
that there has been a distinct reduction in living standards for at
least large parts of the Russian population since 1989. I would take
issue with the easy inference that has been drawn by some that
that somehow economic reform took place too rapidly.

If one looks at other countries, Ukraine, Belarus, other of the
former Soviet republics where reform has taken place even less
rapidly than in Russia, in many cases the fall in living standards
has actually been significantly greater. And if one looks at some of
the places in the Baltics or in the northern parts of Central Europe
where reform has taken place more rapidly, what has happened to
living standards has been somewhat more favorable.

I think the core reason why the decline has been so great has
been the combination of how militarized it was and how fundamen-
tally distorted the composition of industrial production by military

need, and by industry that was based on oil at a very small frac-
tion of the world's prices.

Chairman Leach. Mr. Bachus.

Mr. Bachus. Thank you, Mr. Chairman.

Mr. Secretary, I think we all know that it has been stated here
that Russia is too big, it is too nuclear, it is too inflational for us
to ignore. I don't think there is really any serious doubt that we
are going to continue to help Russia, we are going to continue to
assist Russia. And despite what we hear from time to time within
the Congress, the IMF and the World Bank, other organizations to
do that, because there is really no one else that can play that role.
Do you agree with that?

Mr. Summers. I would agree with that, although I would caution,
as I have tried to articulate, that the terms of their engagement
and the approaches that they pursue have to change with condi-
tions on the ground. And then, under current conditions, much
more of a bottom-up approach and much less direct support to the
foreign exchange market are appropriate.

Mr. Bachus. I guess what I am saying is the IMF and the World
Bank and the United States, we are going to continue to cooperate
with Russia, we are going to continue to assist Russia. I think the
questions that are helpful or not, whether we do that or not, be-
cause we are going to do it — I am going to say it is a fact that that
is going to be the IMF and the World Bank. I am going to approach
my questioning from that standpoint, because I am going to as-
sume those as given.

In that regard, in many of the previous IMF loans to crisis coun-
tries such as Korea, the Federal Reserve was brought in to help
monitor and assist the IMF loan program. I am not aware that the
Fed was asked to help implement the IMF Russia loan program.
This is particularly disturbing, because there were and still are se-
rious concerns about the effectiveness of Russia's Central Bank.
Federal Reserve oversight would have been very useful since it ap-
pears that the Russian Central Bank is plagued with conflicts of
interest.

I read an interview by the chairman of the federal commission
for the security market. So this is Russians that are saying that
it is engaged in conflicts of interest and, in effect, if — for instance,
Russia's Central Bank was acting as a regulator for the commercial
banks and at the same time they were speculating in Russia's
short-term government debt market, the GKO. So my question to
you is this: Why didn't you or Treasury ask the Federal Reserve
to help implement the Russian loan program and were you aware
of the serious problems of Russia's Central Bank?

Mr. Summers. With respect to the second question first, certainly
we have been aware for quite some time and most especially follow-
ing the collapse in August of 1998 of integrity problems of the Rus-
sian Central Bank, and that is a crucial part of why in the current
approach none of the IMF funds will actually reach the Russian
Central Bank and why, even for that refinancing, there are a whole
set of conditions appended.

With respect to the Korean case that you referenced, the Fed was
not involved in the direct enforcement of the IMF conditions. The
Fed was, of course, involved in deliberations about U.S. policy in

this area and particularly with respect to the use of the Exchange
Stabilization Fund. There were officials from the Fed who, in re-
sponse to the Korean government's request, provided technical as-
sistance. Certainly, we in Treasury would be very supportive of any
technical assistance efforts that the Russian Central Bank and the
Fed could agree on. That is really a policy call for the Fed to make.
But it would not in my judgment be appropriate, and it has not,
to my knowledge, been the practice for the Fed to be involved in
any case in the enforcement of conditionality.

Mr. Bachus. Thank you.

My second question is this: What we have seen in Russia with
the organized criminal enterprises, the so-called mafia there, and
also with government officials who may have been taking money
out of the country, that is not something that we are not seeing in
other countries. We have seen — literally forever we have been see-
ing countries looted by corrupt leaders.

I am particularly encouraged by the legislation that Chairman
Leach is introducing and which I am cosponsoring, which is going
to move, really — as long as we have these — we are going to have
these organized criminal enterprises. Mexico, Colombia, and Russia
are probably the three best known. We are going to continue to
have corrupt government leaders, and others are going to launder
money. It leads to terrorism, racketeering, tax evasion, drug smug-
gling, all of this.

There is one common denominator in all of this. That is that you
have these offshore financial centers that are cloaked in secrecy
and are poorly regulated and have almost no reporting. The legisla-
tion that we are introducing would move to begin to take action to
stop this. It is something that we have put up with too long. It is
something that is going to need the G-7, action by the G-7.

Can you comment on that? Is the world community, the G-7 —
we are in a world economy. Isn't it time to shut down some of these
operations or demand that they be regulated and that they report?

Mr. Summers. Yes is the answer to that question. Without being
in a position here to discuss the precise provisions of the legislation
that you are introducing, which I haven't had a chance to fully
study, and without getting into the full details of what is in the na-
tional money laundering strategy, I think this is clearly an issue
that has to be addressed; and I think it has to be addressed, frank-
ly, for two interrelated reasons. One is the abuse that is made pos-
sible by these offshore centers. The second is the pressure these off-
shore centers put on the ability to regulate in our country and
other major countries where satisfactory regulation becomes more
difficult if there is the threat that it will simply produce recourse
to offshore centers.

But my own view, and this is something that I have stressed
since I became Secretary as we worked on the development of the
national money laundering strategy, is that a proper approach to
offshore centers is overdue. I might just say that, as part of the
work on the financial architecture, there is a kind of high-level
steering group in the financial regulation area, the forum that has
been set up, which has three projects underway with the strong en-
couragement of the United States. One of those projects is directed
at the set of issues surrounding offshore centers.

Mr. Bachus. I know your proposals. They are probably eight
months late coming out, but I would hope that they are going to
address this issue. Because as long as we have these offshore finan-
cial centers, as long as they are poorly regulated, as long as you
have the veil of secrecy, we are going to continue to give oppor-
tunity to both these criminal enterprises and to corrupt govern-
ment officials. The arms trade is going to continue to flourish. Ter-
rorism is going to continue to operate wide open. And so I would
certainly hope that that is in your proposal, too, and that the
United States show leadership on that issue.

Mr. Summers. This is a concern that we share.

Chairman Leach. I thank the gentleman.

At the risk of presumption, let me just add quickly to that. Our
concern is American law, also international negotiations. The de-
gree that we give advice to others — in economics there is a question
of whether you should ever place controls on capital. But I don't see
how any developing country should not absolutely preclude by law
the movement of capital to poorly regulated financial centers super-
vised by offshore institutions, because the only reason for doing
that is for corrupt purposes, to not track capital. I think that is a
bit of advice that the international community led by the United
States ought to be giving to every country in the world, and we
ought to take some of it ourselves.

Ms. Waters.

Ms. Waters. Thank you, Mr. Chairman and Members.

While we all are confessing, we know that American policy al-
lows for criminal activity if we feel it is in the best interests of our
country. That is rather bluntly stated, but that is about what we
are all saying.

I must admit I am not naive about policies that we turn a blind
eye to, countries that are sometimes acting in ways that we may
not necessarily agree with, but we let it happen. I am aware of
Zaire and Mobutu and the fact that we let him steal the money and
on and on and on.

How long have you known — ^Treasury known — about the money
laundering, of this Russian problem?

Mr. Summers. We have been aware of the seriousness of corrup-
tion and capital flight from Russia and the likelihood that there
were instances of money laundering since the beginning of the time
that we were involved in Russian policy. With respect to the spe-
cific investigation that has gotten a lot of attention very recently.
Treasury officials learned of it in April.

Ms. Waters. Just this past April?

Mr. Summers. The specific investigation referencing the bank,
referencing

Ms. Waters. Was Treasury involved with the Justice Depart-
ment in any way in the investigation of the Russian mafia before
April?

Mr. Summers. The Treasury investigative arms have cooperated
with Justice on a number of different investigations and certainly
some specific investigations involving particular Russian targets,
substantially prior — significantly prior to last April, yes.

Ms. Waters. Did the Russian banks offshore, like in Antigua,
play any role in this money laundering and drug money launder-

ing? There are eight Russian banks in Antigua, a place that has
60,000 people and 50 banks. Eight banks are Russian.

Mr. Summers. To the extent that it is possible with respect to
an ongoing investigation, we can provide a written answer with re-
spect to what is in the public record regarding Antigua.

With respect to offshore centers generally

Ms. Waters. I want to know about Russian banks in Antigua,
the eight Russian banks.

Mr. Summers. To the extent that it is possible to respond to that
inquiry, the investigative authorities are able to respond to that in-
quiry, I will ask them to do so promptly.

Ms. Waters. Let me follow up on what the Chairman asked. One
of my pet peeves is the fact that our respectable banks wire trans-
fer money to the banking centers in Antigua and other places, and
we know why they are establishing them and what they are doing.
What leadership are you going to provide to stop that practice?

Mr. Summers. With respect to the general issue of offshore finan-
cial centers, sometimes referred to as havens, I expect us to provide
in the context of the national money laundering strategy a set of
proposals. I think it will also indicate

Ms. Waters. Do you want to see it stopped?

Mr. Summers. Yes.

Ms. Waters. Do you want to see the practice of wire transfers
to money laundering centers that we know about stopped, period?

Mr. Summers. Congresswoman, we want to see abuses stopped.
We want to see abuses stopped, period. I think our challenge will
be to craft rules that stop it, that stop abuses.

Ms. Waters. Let me just say this. Given that we are not naive
and we know that we have to work with countries even if they are
not doing what we want them to do and they have practices that
we would frown on, and Russia is important for all of the reasons
stated, can you separate out drug money laundering in order for us
to put our feet down and say we will not tolerate the laundering
of drug money? That is my pet peeve. Let them steal IMF's money
or our bilateral support, but how tough will you be on the launder-
ing of drug money?

Mr. Summers. We will in every feasible way that we can seek to
combat money laundering of all kinds that you described, including
drug money. The qualification that I made with respect to our de-
termination to do everything we could to stop abuses was simply
intended to indicate that as serious as these problems are, it would
be, I think, a mistake at this juncture to conclude that all financial
transactions, period, that involve certain institutions and offshore
centers, are transactions of questionable legality.

Ms. Waters. I am not concerned about trying to wrap this
around everybody. I am only concerned about the laundering of
drug money.

Mr. Summers. We totally share your concern, Congresswoman.

Ms. Waters. What will you do about it?

Mr. Summers. In the national money laundering strategy and in
the national reviews we propose legislation and administrative
steps that will take all feasible steps that we can envision to go
after this problem, and I might just say that we would be very
grateful for any assistance and suggestions that can be provided to

SQ.RM on - 7

us as to how we can more effectively go after this, because I think
this is a very clear issue.

Ms. Waters. I would like to co-opt the legislation and work with
you. Ms. Velazquez has been working so hard on this, and others,
and we want some cooperation to help us on the question of the
laundering of drug money. Thank you.

Mr. Summers. Let me just, if I could, note that we have acted
and have issued an advisory with respect to U.S. banks specifically
with regard to transactions involving Antigua, because of a set of
concerns that have arisen and have been in touch with the authori-
ties in Antigua as well regarding those concerns.

Ms. Waters. Mr. Chairman, I have a list of every bank that has
been convicted of the laundering of drug money. Not one has lost
its charter. We have — even American Express International that
was fined $25 million. I want to tell you these fines and asset for-
feitures are simply the cost of doing business for these banks. You
have got to put somebody out of business.

Chairman Leach. The gentlewoman's time has expired.

In this regard a law passed on a bipartisan basis, initiated by
Ms. Velazquez, is calling for the Treasury to put forth a strategy.
That is eight months in abeyance over a congressional law, and you
are coming out with it this week and we are appreciative of that,
but the timing is imperfect.

Secondly on the timing front, the Financial Times reported in the
last few days that British authorities told the FBI about the issue
of the Bank of New York in September. A great congressional con-
cern has been interagency cooperation, who tells what to whom.

If Treasury did not learn about this until April, that is a rather
significant time line. And so unrelated to legislation, but also in-
volving legislation, the Congress does expect to have substantially
greater coordination within the Executive Branch.

The gentleman from California.

Mr. Royce. Thank you, Mr. Chairman.

Mr. Secretary, I understand there is typically a due diligence
standard set in order to contain risks associated with a transaction
to an acceptable level. According to the New York Times, you and
Secretary Rubin knew of the investigation into allegations of Rus-
sian money laundering and the Bank of New York before the latest
round of IMF loans to Russia, but these allegations were not taken
into account in setting conditions for the loans. Chairman Leach
mentioned earlier the former Russian Finance Minister Boris
Feodorov in 1993, did an interview with Ann Williamson, in which
he reported that he asked you to not approve an IMF loan of $1.5
billion since the loan would undermine his attempts to discipline
the finance ministry. He further remarked we came to a modus
operandi in Washington with the IMF which was essentially a car-
rot-donkey process. In this sense, the IMF's role was gamesman-
ship, because they never required any conditions for loans.

In April 1993, the IMF decided to give $1.5 billion and on the
26th of April, the former Russian finance minister reported: "I dis-
covered that the budget deficit had grown, because once the money
was promised, it was consumed immediately, mostly through graft
on government importing schemes. I always told Larry Summers,
Tou have the money and the wish to spend it, come and spend. Of

course, this money will ultimately be deposited somewhere in Zu-
rich.' I told Summers that." And he goes on to say, "Once the
money is given, there is no motivation to reform. That is one of the
reasons why I left the government," says the former Russian fi-
nance minister.

My first question would be, what information did the Treasury
Department and the IMF take into consideration in order to formu-
late the due diligence standard as it applied to loans to Russia?
Why did the allegations of money laundering not factor into these
formulations, and in light of this, what specific due diligence stand-
ards have been applied to the loans to Russia?

Mr. Summers. With respect to the loans that were made subse-
quent to our learning of the money laundering investigation in
April of 1999, those reports only reinforced what were our extraor-
dinarily great concerns about the integrity and the handling of
funds following what took place in August of 1998. Our judgment
at that time was that the appropriate form of new finance was one
which would be provided in the form of special drawing rights to
an account at the IMF which would not be eligible for use by the
Russian authorities at their discretion, but could be used only to
repay the IMF. In effect they could not get their hands on the
funds for a use of their choice. That was a response to concerns
about integrity which were reinforced by the reports that you have
described.

Mr. ROYCE. Of course Finance Minister Feodorov's statements
were from 1993.

Mr. Summers. Perhaps I could just respond with respect to those
statements.

It is correct that at certain stages during his time as finance
minister, it was Mr. Feodorov's view that it would be better to
delay the provision of support. And indeed at a number of those
points the provision of support was delayed until specific accom-
plishments were achieved, until there were certain specific steps
taken.

I would just caution that if one looks at the period from 1993,
1994, 1995, one saw a period in which inflation rates in Russia fell
from the thousands of percent to much lower levels.

One saw in those years that much of the apparatus of the Com-
munist state was dismantled. Clearly there was always a balance
that needed to be struck between the risks of inhibiting the tend-
ency to reform with the benefits of engagement and pushing the
process of reform along.

I would just caution that in making judgments I think it is ap-
propriate to remember that in 1993 it was widely expected that
there would be starvation in the cities, that hyper-inflation would
break out, that there would be a return to communism and that
the Soviet state would collapse. Those fears did not materialize.
Certainly, not everything that was hoped for or all the goals that
were set were achieved either.

Mr. ROYCE. Of course he also brings up his concerns about not
having conditions on the loans, graft on government importing
schemes and ultimately the money being deposited somewhere in
Zurich. That being brought up in 1993 should have been a heads-
up.

Mr. Summers. I think there were a set of controls that were in
place. Of course, IMF funds go into a central bank reserve and a
central bank's reserves are used in part to intervene in a currency
market. There is a large volume in the currency market. The vast
majority includes the proceeds of exports, and so it is very difficult
to identify where a particular dollar that comes into one side of a
market that is only a small portion of that side ultimately ends up.

The concern about capital flight was something that was always
uppermost on everyone's mind in the design of these policies and
that was why there was a strong effort to address its roots, inad-
equate tax collection, in subsidized credits, in inflationary policies
that caused the ruble to lose its value.

I think it is very difficult to know what the counter-factual would
be if different policies had been pursued. But the attempt was to
strike a balance very mindful of the dangers of capital flight and
dangers of corruption.

Mr. ROYCE. Thank you, Secretary Summers.

Thank you, Mr. Chairman.

Chairman Leach. Ms. Velazquez.

Ms. Velazquez. Mr. Summers, you said that the Treasury De-
partment learned in April about the money laundering activities
through the Bank of New York. Can you tell me what was the
Treasury Department's response?

Mr. Summers. Upon learning of that information, our inter-
national colleagues in our international area notified Secretary
Rubin and myself of their intention to go back to the Federal Re-
serve System, where they had learned of it, to see if there was any
information that pointed to the diversion of IMF funds that was
contained in those reports. They did that, and they learned that
there was no such information.

What we did with this information was have it to serve to rein-
force our large concerns about corruption and capital flight from
Russia, which helped to shape the different approach to IMF en-
gagement that is in place at this point.

Ms. Velazquez. At the time were bank regulators notified so
that those organizations which most frequently access bank records
and money through bank records could track any suspicious ac-
count through the Bank of New York?

Mr. Summers. It was a bank regulator that notified us; namely,
the Federal Reserve. And so it was presumptively aware of the sit-
uation. I might say that through this whole period there have been
what I understand to be close working relationships at the inves-
tigative level between Treasury's Financial Crimes Enforcement
Network and the relevant authorities in the Department of Justice.

Ms. Velazquez. In 1998, the General Accounting Office con-
ducted a study that found that 24 percent of Federal field agents
did not know about any anti-money laundering problems or serv-
ices offered by FinCEN. Would you tell me that under your leader-
ship will the Treasury Department ensure that every law enforce-
ment agency, whether State, Federal or local, would be aware of
the resources that are available by the agencies?

Mr. Summers. I can tell you that Secretary Rubin and I ap-
pointed a new director of FinCEN a few months ago and that he
sees as one of his central mandates with our very strong support

is assuring that there is full knowledge with respect to FinCEN's
services in this area and we are more generally making sure that
financial crime is something that is very much a focus throughout
the law enforcement community.

And I might say that, within Treasury, FinCEN is, of course,
very involved in these issues and, just so I am very clear, FinCEN
has been involved in analysis of this issue through a law enforce-
ment channel prior to notification to policy officials in April. The
IRS anti-crime unit and the Customs Service both also have had
substantial roles with respect to money laundering investigations.

Ms. Velazquez. My final question, Mr. Summers, how do you
think the money laundering strategies focus on intergovernmental
cooperation could have assisted U.S. efforts in the early stages of
the Bank of New York case?

Mr. Summers. I think there will need to be a careful examination
of the approaches for sharing information both within the law en-
forcement compartment and between the law enforcement compart-
ment and the more general policy area. There are a very difficult
set of balances in this area, because of the importance of protecting
the integrity of ongoing investigations.

Ms. Velazquez. Thank you.

Chairman Leach. Thank you, Ms. Velazquez.

Dr. Weldon.

Dr. Weldon of Florida. Secretary Summers, I represent the
East Central coast of Florida, it is called the Space Coast. About
a year-and-a-half ago we had to lay off about 600 people at Ken-
nedy Space Center partly because the Space Shuttle wasn't flying.
You may have heard on some of the reports on Hurricane Floyd
there was concern about $10 billion worth of Space Station hard-
ware stacked up at the Space Center waiting to fly, and the reason
that the Shuttle is not flying is we are waiting on a Russian com-
ponent to the Space Station, something that the President had ne-
gotiated with the Russians about six years ago. This element, it is
about a $300 million element, a lot of money. I have personally met
with Yuriy Koptev, the head of the Russian Space Agency, who
tells me that he is not getting any money and that is why this
thing is delayed. It is very frustrating to hear that some of the bil-
lions of dollars that the IMF has sent to Russia has been siphoned
off for illegal purposes, and that their economy continues to spiral
downward, because of this huge flight of capital.

Now, I am very pleased to hear you come before us today and
say that we are not going to send them any more money and we
are just going to refinance their existing debt, but I have a serious
concern that maybe we should not even be doing that. By not ap-
plying the necessary pressure by asking them to repay the debt,
are we in effect going to not fulfill our fiduciary responsibilities and
cause the current problems that we have over there to continue?

In my follow-up question to that, do you really look at these IMF
transfers in a true fiduciary way, the same way that a bank is re-
sponsible when it lends money to an individual or a corporation?

Mr. Summers. Dr. Weldon, let me try to respond to both parts
of your question, if I could.

With respect to the current level IMF approach, it attempts to
strike a balance between being appropriately hard-headed, main-

taining the pressure for the necessary change, and at the same
time recognizing that our involvement or the IMF's involvement
does provide the opportunity for influence on questions like integ-
rity of accounting. The current approach also avoids what I think
otherwise would be the danger if all of these loans were called at
the same moment, creating a very difficult financial situation and
allowing the international community to become scapegoats for
very real problems in Russia. In sizing the engagement, in timing
the engagement, this is exactly the kind of balance that has to be
struck. It has to be struck in a hard-headed way.

With respect to the fiduciary question, if I can call it that, I think
it is perhaps helpful for me to state what the nature and purpose
of IMF support in a situation like Russia is.

It goes to augment the reserves of the Russia Central Bank,
Those reserves are then used in an effort to help stabilize the for-
eign exchange market. There is a lot of trade in the foreign ex-
change market. Most of trading in the foreign exchange market
doesn't involve the IMF money on either side. It involves buying
and selling based on people's judgments as to a price and where
they want to have their money, so that it is difficult or really im-
possible to identify what in some sense the ultimate use of a par-
ticular dollar is. What can be audited and what has been audited
is that the dollars that were provided by the IMF went for their
intended use: Augmentation of Russian reserves and use in the for-
eign exchange market. That doesn't go to address a whole set of
concerns about the selected provision of credits within Russia,
about the flows of information that took place within Russia that
go to the integrity of the Russian financial system where there are
obviously pervasive problems.

But I think it is — without minimizing what are enormous prob-
lems of corruption and establishing financial integrity and the rule
of law — misleading to suggest on the basis of the evidence that is
available at this point that there have been direct diversions of
IMF dollars that should have been used for reserves in the foreign
exchange market to some entirely different purpose.

Dr. Weldon. Thank you. Secretary Summers.

Chairman Leach. Mr. Bentsen.

Mr. Bentsen. Thank you, Mr. Chairman.

Mr. Secretary, I have a number of questions, some of which you
have already answered. The Treasury Department learned about
the Bank of New York situation in April of 1999. Is the Bank of
New York, is that a national bank or is it a State-chartered bank
or is it a bank holding company? My question is who is the primary
regulator?

Mr. Summers. The Federal Reserve. Just to be strictly accurate
with the committee, the policy officials at the Treasury learned in
April. There had been some cooperation at the law enforcement in-
vestigative level between Treasury and law enforcement prior to
April. But Treasury learned at the policy level in April, and the
primary regulator is the Federal Reserve.

Mr. Bentsen. Do you think that it would have been appropriate
once the policy level was aware of this in April 1999, do you think
it would have been appropriate to then notify up the line? I guess
my point is that some have made the allegation that perhaps once

Treasury became aware of this ongoing criminal investigation, that
perhaps even higher levels within the Administration should have
been notified of this and that they should have gone as far as per-
haps to notify high levels in the Russian administration that there
was a criminal investigation going on involving a U.S. bank, and
by not doing so, that there is some culpability or political culpabil-
ity on the part of the U.S. Administration. Don't you think that
would have been inappropriate behavior on the part of the Treas-
ury Department to interfere with an ongoing investigation, and the
appropriate course of action was to allow the investigation to carry
out at the appropriate levels, rather than tip off the Russians and
say, "We are investigating some of your activities involving your
banks"?

Mr. Summers. The practice and guidelines within which depart-
ment officials operate, Congressman Bentsen, are to be very, very
careful with respect to the discussion of or spread of information
with respect to ongoing law enforcement investigations, and I think
that history amply demonstrates the prudence of those guidelines,
and that is why the approach that was taken when this informa-
tion was brought to policy officials was to go back on the specific
policy relevant question to the Federal Reserve through general
counsel channels. But the policy practices under which department
officials operate dictate that with respect to an ongoing investiga-
tion being conducted by the Justice Department, it was a decision
for the Justice Department to make in terms of broader notifica-
tions.

Mr. Bentsen. In response to a previous question asked you stat-
ed that there is currently no evidence that multilateral develop-
ment fund or international financial assistance funds, IMF, World
Bank, have been misused or stolen or anything to the like based
upon the audits provided to the international financial institutions
and what Treasury has looked at.

There is the case of Fimaco with the offshore transfer. Was the
case there that the Central Bank transferred it to their offshore en-
tity and then turned around and purchased government bonds pre-
sumably to bolster — transferred funds in the general revenue — to
bolster the government bond market, but otherwise there is no evi-
dence at this point in time that any funds have been siphoned off
for non-governmental activity?

Mr. Summers. I want to make sure that we distinguish the Bank
of New York situation from the Fimaco situation.

Mr. Bentsen. Yes.

Mr. Summers. With respect to Bank of New York there is no evi-
dence that there were any IMF funds diverted.

On the other question, there is ample evidence of integrity and
corruption issues that have arisen in the Russian government and
in the Russian Central Bank. But the report and the evidence at
this point do not point to their having involved in the diversion of
IMF funds to inappropriate uses. The concerns go more to the pro-
vision of ruble credits, and they go to misreporting of the underly-
ing situation through the use of the Fimaco subsidiary.

But there are underway, as conditions for the ongoing IMF fi-
nancing, further audits with respect to the ongoing activities of the

Central Bank and there are further issues involving other subsidi-
aries of the Central Bank that have to be cleared up.

Mr. Bentsen. Thank you. Thank you, Mr. Chairman.

Chairman Leach. Thank you, Mr. Bentsen.

Mr. Ryan.

Mr. Ryan. Thank you for coming today, Mr. Secretary. I regret
that I did not hear your opening testimony. I just flew in from Wis-
consin.

I want to read you from an editorial from The Economist a couple
of weeks ago in describing the culture of corruption within Russia
and our relationship with Russia. "Far from civilizing the wreckage
of the Soviet economy, economic transactions between Russia and
the West are running the risk of corrupting the Western side, if
only by forcing it to wink at practices which would be outlawed in
more established economies. There is a particular irony in the fact
that one Western party is the IMF, whose stated purpose is to
propagate virtues of sound economic policy and good governance.
But if the IMF's integrity has been compromised, the cause does
not lie in its own sloppy controls, it lies in the collusion of the
American and Russian governments to cover up failures and press
the Fund into treating Russia with greater generosity than its eco-
nomic performance would warrant."

It seems with news reports, with academia coming to Congress
telling us that the Administration has kind of adopted a policy to-
ward this Russian culture of corruption of "hear no evil, see no evil,
know no evil," we need a new system to help the Russian people.
It is my hope that this does not relegate into some kind of a par-
tisan issue, but that we keep our eye on the ball. That is that we
help the Russian people get a healthy growing economy with cur-
rency that has a solid store of value.

Have you considered, given the fact that the IMF themselves
now will not send money into Russia, because they are unsure of
the misuse of the funds, have you considered encouraging Russia
to establish a currency board? And would a currency board be one
solution which would help stabilize the currency regime in Russia,
a central banking system which has been in turmoil since 1914,
they have not been in full convertibility. Wouldn't a currency board
be one solution that the U.S. and the IMF could encourage on Rus-
sia which would be one way to thwart the escalating corruption,
and I would ask you to look at the Estonia situation with the cur-
rency board and hasn't that helped stem corruption and helped sta-
bilize the currency market there?

Mr. Summers. Congressman, it is something that has been dis-
cussed and Mr. Feodorov, whom Congressman Royce was quoting
earlier, has actually advocated a currency board in Russia.

To be workable, a currency board system requires a set of pre-
requisites. It requires, because it denies the government access to
the printing press, a budget that is balanced. It requires that a
banking system is functioning since one loses the ability for the
Central Bank to provide direct credits to banks. And it requires a
substantial external component of reserves and that the external
component of reserves be readily accessible by anyone wishing to
take money out of the country.

I think while the experience of a number of countries, including
Estonia, suggest that currency boards can make very substantial
positive contributions to economic stability, at this point the fiscal
requisite, the stability in the banking system requisite, and the
requisite that requires basic integrity in the economic environment
so one is prepared to make an external financing of any capital
withdrawal desired by any Russian, I think those three requisites
certainly are not in place at this point.

Mr. Ryan. With all due respect, that sounds like an endorsement
for the status quo. It sounds like you are putting the cart in front
of the horse. Isn't a currency board and a sound banking system
the prerequisite for sound fiscal policy? Isn't a currency board and
a sound monetary regime basically putting the cart in front of the
horse, meaning that is how we can get a good fiscal situation
cleaned up in Russia?

Mr. Summers. Congressman, let me say that the status quo is
very different than the policy that was in place a year ago prior
to the economic and financial collapse, and it is very different in
ways that are directly responsive to the concerns about corruption.

There is no question that, as you suggest in your question, a cur-
rency board can contribute to maintenance of stability. But if the
appetite to spend is not commensurate with the appetite to tax, if
there is no capacity to regulate wildcat banks, if the banking sys-
tem is being used as an adjunct to subsidize industry, those are not
things that would be solved by the imposition of a currency board.

So I think almost all economists, including many of those who
are most enthusiastic about a currency board as an ultimate objec-
tive, would agree that there are very substantial steps that would
have to be taken in the Russian context before a currency board
can be considered.

Mr. Ryan. Let me ask you this, and just looking at some of Stan-
ley Fisher's articles, what if you set up a currency board and al-
lowed foreign Western banks to go into Russia and to have sort of
a banking holiday, for Russian banks in Russia to allow access to
Western banks in Russia, to give us a better, transparent, incor-
ruptible banking system. And a currency board — could that not be
one solution as a way of getting monetary stability in the country
without waiting for the fiscal side to develop, before then going on
to the monetary side?

Mr. Summers. I think that we have stressed in all of our policy
dialogue over the last few years with Russia and other countries
that quite apart from the question of capital controls which in-
volves a different set of issues, there are enormous advantages to
allowing foreign banks to take an active role in a country's finan-
cial system as you propose, and we would be very supportive of
that.

Even if you had a major foreign banking presence, the basic chal-
lenge of the fiscal year of commensurate taxes and spending is an
area that would also need to be addressed as a requisite to a cur-
rency board.

I think at this point in Russia's political cycle with the political
calendar that we are all aware of, the initiative for such a major
imminent change in Russia is not there. So I think what is impor-
tant is to focus on the more incremental issues of maintaining in-

tegrity and addressing banking and addressing banking problems
as the issues of this moment.

But I think the impulse behind your question that a stable
money is crucial to a stable economy is exactly right.

Mr. Ryan. So you are basically saying that you have to have the
fiscal house in order before you can implement strong monetary
changes?

Mr. Summers. I think you would need to have a fiscal house
much more in order than Russia's fiscal houses and banking sys-
tems are in order today.

Chairman Leach. The gentleman's time has expired. At the risk
of presumption, putting the currency board aside, which is a credi-
ble alternative, the United States of America encourages foreign
banks. About 20 percent of our assets are controlled by foreign
banks and we find it very healthy for the United States. Of modest
advice to other societies, including Russia, would be to encourage
the existence of foreign banks which operate under the rule of law,
and I think it would be very helpful to Russian society if they were
to open up to law-based banks as contrasted to a current system
where many banks are money laundering centers for insiders.

Mr. Vento.

Mr. Vento. Thank you, Mr. Chairman. I regret that I arrived
late on my flight, but I did look at your testimony, Mr. Secretary.

On the issue of the IMF tranches and the new agreement that
is in effect, the fact of the matter is that once the credit is ex-
tended, we have a very difficult time trying to extrapolate how that
credit may be used. In a sense, these dollars really go to keep the
economy and the current circumstances that are in place, the good
and the bad, functioning; don't they?

Mr. Summers. Under the arrangements in place going forward,
the funds will only be used to repay the IMF.

Mr. Vento. Let me interrupt, Mr. Secretary. I understand that
there will be a net payback of IMF loans, but in essence the econ-
omy of Russia, with whatever the inadequate amounts going for
space in some people's view, and whatever other enterprises are
taking place, and some of it the corruption and the crime that is
prevalent, there will in fact be sustained by this type of credit ac-
tivity. These dollars are fungible. Some suggest that the efficiency
is about 79 cents on $1 in terms of what is spent.

So the fundamental decision here, I guess, is obviously in terms
of new conditions, new requirements that are placed; and I read
some of the list of conditions and I concur with them. I am not for
a currency exchange board. I think a floating ruble is good. Even
when the IMF guessed wrong last August, I think they had good
intentions, but they made a mistake.

But the issue here is one of whether or not we are going to sus-
tain these conditions. Some have suggested that Russia and other
countries that have the potential problems that they face — such as
I suppose you can put China and Indonesia — are too large and they
are too important to let slip away. I think that is a realization has
been expressed here, perhaps not as bluntly as I am expressing,
but it is a factor. We hope that gradually that they are going to
grow from a Socialist, centrally controlled economy to a free market
state. There are a lot of bumps in the road and there may be some

big holes. Maybe there is a black hole, I don't know. Do you want
to respond to that?

Mr. Summers. Your question describes very well the kind of bal-
ances that are involved in making policy in this area trying to bal-
ance what is economically best, and what is realistically achievable
in the context.

I think we need to always insist, as a base, on financial integrity
with respect to the handling of assistance funds. At the same time,
we need to recognize the broad political context in which we are
trying to operate. We need to recognize the need for speed in dis-
mantling the apparatus of communism. We need to recognize the
unsatisfactory characteristics and the difficulties of integrity that
many who come to positions of power have in many countries, and
at the same time the fact that they are the representatives of the
countries with whom we deal.

So I think there are a difficult set of balances that need to be
struck here. Our policy has been to try, in pursuit of American in-
terests, to strike them in as appropriate a way as possible.

Mr. Vento. As you pointed out, we have $15 billion a year of
capital flight from Russia and there is an $80 billion export mar-
ket. A lot of dollars are coming out and going back. We talked
about the IMF tried to take on PricewaterhouseCoopers' audit to
provide some air of security. Are there auditors and auditing sys-
tems in Russia? Are there regulators? I know free market countries
that don't have adequate regulators. It is sort of begging the ques-
tion. They do not have. Can we really in effect audit and know
where $80 billion goes a year or try to prevent a $15 billion loss?
All of us would like to see the rubles remain in the country so they
can achieve the type of economic success that we would like to see.

What is the answer? These requirements here, lack of auditing
capacity, lack of regulatory capacity in the banking and financial
system, to say nothing of the civil justice system, the rule of law,
these fundamentally are uneven at best, are they not?

Mr. Summers. Congressman Vento, I would agree with every-
thing that you have said about there being very substantial inad-
equacies in the accounting and regulatory frameworks in Russia. If
you look at our own country where the problems were much, much
simpler, the development of those frameworks took us a very long
time.

What I think is prudent and appropriate for us is to insist on
very specific auditing with respect to the specific funds that the
IMF provides and rigorous safeguards with respect to those funds
from the international financial institutions.

With respect to the problem of capital flight, there is I think
something that we can learn from the broad economic history, and
that is that it is a King Canute-like task to try to stop capital flight
by measuring every flow and putting — and erecting appropriate
barriers and having satisfactory regulation.

Capital flight stops when a broad economic environment changes
to one in which a country's citizens decide that it is in their inter-
est to make investments in their country. Until that change has
been brought about, no set of administrative procedures will stop
capital flight. And once that change is brought about, the adminis-
trative procedures become less important and that is why support

for the broad direction of Russian economic reform and stability in
Russia has to be a component of a prudent poUcy.

But I think that the important thing for us to keep in mind is
that this is a long-standing task that we will be with for a long
time.

Mr. Vento. Just stating a parameter, the $15 billion in capital
flight does not all come to the United States. The $80 billion in ex-
ports does not come here. The mistakes made by the IMF in terms
of the floating ruble and the devaluation of it and the sort of un-
controlled nature, not the lack of recognition, these are fundamen-
tal mistakes. I disagree and I think most of us in hindsight could
do well in terms of this interpretation, but I understand that the
answers to that are not easy to come to as we look ahead.

Chairman Leach. Mrs. Biggert.

Mrs. Biggert. Thank you, Mr. Chairman and thank you, Mr.
Secretary for participating today. Last week Secretary of State
Albright was quoted in the New York Times, criticizing Russian
leaders for failing to combat corruption. Secretary Albright said
that the Administration would no longer support further multilat-
eral assistance to Russia unless fully adequate safeguards are in
place. Additionally, I think it was in another paper, she said that
a close eye is always kept on bilateral aid as well.

Do Secretary Albright's comments reflect the position of the Ad-
ministration? Does that reflect what will happen with agreements
that are already in the pipeline, that are already in the works?

Mr. Summers. Yes, it does reflect the Administration position.
And yes, with respect to all future bilateral assistance and with re-
spect to the IMF and the international financial institutions sup-
port, we will only support disbursements based on adequate safe-
guards and adequate accounting.

Mrs. Biggert. What about those that are just about to be forth-
coming, would it be prudent to delay or cancel those as well?

Mr. Summers. It would be prudent for them not to take place
until adequate accounting and adequate safeguards are in place.

Mrs. Biggert. So that there would be concrete evidence that
those safeguards are in place?

Mr. Summers. Absolutely.

Mrs. Biggert. Thank you. Thank you very much.

Chairman Leach. Thank you.

Mr. Inslee.

Mr. Inslee. I just want to make a comment and then I have a
couple of questions.

I read from our friends in the press who sort of suggested that
these hearings are to answer the question "Who lost Russia?" and
I want to say that nobody "lost" Russia, Russia was not ours to
lose. And if Russia loses this opportunity to go to a law-based free
enterprise system, it will be Russian failure, not American, and I
think it is important to say that when we think about what we can
or cannot do with regard to Russia.

But if there is a new shift, when and if we ever get back to try
to help them financially, and I appreciate the Administration's de-
cision to essentially just refinance existing loans, if we ever do get
back to that position, the first question: Should we consider re-
thinking how we offer assistance to Russia, to go to a system of

maybe more micro-credit in the sense that we make individual
lending decisions on our end of the pond, so to speak, rather than
central banking decisions in Russia?

Should we simply accept the fact that we are going to have to
make those lending decisions here to have credibility and integrity,
at least for some period of time? And we have had, as you know,
some real success in a lot of developing nations with some of our
micro-lending policies with specific entrepreneurs. Should we be
thinking more on those lines rather than just sort of supporting the
central banking system?

Mr. Summers. Certainly I think doing as much as we possibly
can in a micro-enterprise area should be very much a priority and
should be something that we and the international financial insti-
tutions should strongly support.

In general over the last number of years in Russia, the con-
straint has frankly been less the availability of external finance for
micro-enterprise than the ability to put institutions in place on the
ground that can identify enough loans. Not even all the money that
has been allocated for this purpose has moved, because of the need
for satisfactory control.

I think that, Congressman Inslee, in light of the substantial
debts that Russia has coming due, and in light of the fact that the
conditions of stability in which micro-enterprise can function does
depend somewhat on the macro-economic framework, it wouldn't be
a good idea for us to make a blanket judgment about moving away
from macro-economic support for change in Russia, although as our
current policy limited to refinancing illustrates, that is an area on
which we will have to be very hard-headed going forward.

Mr. Inslee. Is there a way, if the American taxpayer is going to
be providing some financial assistance or guarantees, if you will,
should we be more rigorous in directing it to things that we may
have a self-interest in; for instance, the command and control sys-
tem of their nuclear force? Should we be trying to tie some of our
assistance and say we want to see a targeting toward some specific
concern? Should we be thinking in those terms?

Mr. Summers. Yes. My discussions here today reflecting what
are the responsibilities of the Treasury Department have con-
centrated on the work of the international financial institutions,
which I think covers primarily the areas that we have been dis-
cussing.

If one looks at the broad portfolio of U.S. policy, and particularly
our bilateral assistance program, I think there is no question that
a crucial aspect has to be the area that the Nunn-Lugar program
represented in terms of supporting targeting of nuclear materials.
I think there are questions in which Senator Domenici and many
others have been active involving enriched uranium and plutonium
fuels from Russia.

I think there are a broader set of issues involved in defense con-
version and housing for Russian military who are brought back to
Russian soil. It seems to me that one of the great transformations
is the defense conversion effort, and that is something that we have
very large, very direct security interests in cooperating with the
Russians on, and it is an area that is somewhat separate from the
set of issues that we have been focused on today.

Mr. INSLEE. Thank you.

Chairman Leach. Thank you. That concludes the last Member
from our committee, but we have a guest, Mr. Weldon.

Mr. Weldon of Pennsylvania. Thank you, Mr. Chairman. I ap-
preciate the opportunity to sit through this provocative hearing and
the comments made.

I am here because I co-chair, with Congressman Steny Hoyer,
the Duma-Congress Initiative, and we are very active with mem-
bers of the Duma. Mr. Secretary, I was very much interested in
your testimony, but before I get to that, I would like to, Mr. Chair-
man, introduce members of the Duma who have been invited here
to witness these hearings.

I invited, and he is here, the Chairman of the Corruption Com-
mission of the State Duma, Alexander Kotenkov. Would you please
rise? The Deputy Chairman of the State Duma Committee on
Budget, Taxation, Banks and Finance, Mr. Gitin. Mr. Gitin, would
you please rise? Mr. Andrei is due to arrive along with Viktor
Gitin. You will have a Duma deputy testifying tomorrow in one of
your panels.

In the twelve-page statement that you made, Mr. Secretary,
which was very thorough and comprehensive, and for the record I
have supported every initiative the Administration has had with
regard to Russia, I have lobbied for the Nunn-Lugar program and
have been trying to support the engagement with Russia. But in
your statement there is no mention of the Parliament in Russia.
There is no mention of the word Duma or Federation Council. In
fact, the only time you referred to it was after you asked a ques-
tion, and this was your statement: "that things were not moving
forward because of the unwillingness of the Russian Duma to bring
the budget under control."

In fact, if you look at all of the concerns raised by our Govern-
ment and the IMF, the budget and the privatization of land, the
reforms, all of those require action by the state Duma. My conten-
tion is that has been the failure. Our policy for the past seven
years, in my opinion, has been so preoccupied with our two Presi-
dents and our Vice President and the Prime Minister that we have
forgotten that Russia also lives under a Constitution and that Con-
stitution includes a Parliament, and that Parliament has a legiti-
mate role to play.

My concern is when the IMF goes in and attempts to ask the
Duma to make tough reforms, like imposing new taxes on people
for the water that they drink, for the electricity, for the housing
which in the past they got for free, if I were a Duma deputy, I
would say to the IMF and the U.S. Government: Go pound sand.
Why didn't you come to us when you were spending all of this
money in our country? Why didn't you come to us when policies
were being developed as to where the IMF were putting dollars?
Why didn't you come to us when we suggested that the regions
should be benefiting where they are making reforms? Why didn't
you come to us all along? Do not come at the eleventh hour and
expect us to do the right thing simply because Russia's back is
against the wall.

In my opinion, that has been the failure of our Government, and
I include the Congress and the White House. We have not done

enough to strengthen the institution of the ParUament in Washing-
ton.

I was in Moscow a year ago in September when this Congress
would not approve IMF funding to let the most recent tranche at
that time, and at the same time the Duma was opposed to the
tranche of IMF funding. Why would the Duma be opposed to more
money coming into Russia? Because the Duma deputies from all
the factions look at this as a bailout of the corrupt policies of the
Yeltsin government, of the cronies and the oligarchs who run the
seven banks, the cronies who benefited from the billions of dollars
that we put into Russia, and I would disagree that all of it is to-
tally accounted for.

I would make the statement that there are some cases where we
have not been able to account for even the taxpayer money going
into Russia. That is why the Duma was opposed to the IMF
tranche.

I came up with a set of eight principles. This follows up on Mr.
Frank's suggestion that if we have some ideas, bring them forward.
These ideas are two years ago, Mr. Secretary. Let me read them
to you in summary form and ask which ones you disagree with.

Number one: to establish a joint U.S. -Russian legislative over-
sight commission to monitor every dime of Western money going
into Russia. Not to dictate where it goes, but to make sure it is
going to where it is supposed to go.

Focus Russian resources on programs like housing that will help
develop a Russian middle class; to make Western resources avail-
able to reform-minded regional governments instead of running ev-
er3^hing through the central government in Moscow. Deny corrupt
Moscow-based institutions access to any further Western resources.

Number five, reform the International Monetary Fund was a sug-
gestion to me by George Soros the week I left for Moscow. He said
the one thing that needs to be done is to put pressure on the IMF
to establish an international blue ribbon task force to make rec-
ommendations on how to deal with an emerging economy like Rus-
sia's.

And number six, Mr. Secretary, the Duma leaders agreed to this,
and listen to this, to put the horse in front of the cart, make re-
forms precede and not follow the resources. So something the IMF
couldn't get Russia to do, that our Government couldn't get it to
do, the Duma agreed to because we were tying it into these other
changes focusing on the regions, making sure focusing on programs
that create middle classes, to make sure there was an oversight
process where the Duma could monitor inside of Russia where the
dollars were going.

The last two were to develop a joint action plan to engage CEOs
of American companies with Russian enterprises and a mentoring
relationship, some of which is being done now.

And the last one was to bring over 15,000 young Russian stu-
dents within three years to have them attend undergrad and grad-
uate degree programs at American business, finance and economic
schools with the stipulation they must go back to Russia to live to
help create the next generation of free market leaders in Russia.

We presented this plan to the President, and the White House
told Speaker Gingrich, "we don't support it," and so Speaker Ging-

rich, to his fault, was not wilHng to stand up and have the Con-
gress vote on it, yet the Duma agreed to it.

My question, Mr. Chairman, if we are ever going to get Russia
straightened out, we have to understand that Russia Hves under a
constitution, and as much as I want Yeltsin to succeed, and I did
all the way through, you have to engage the parliamentary bodies,
the Duma and the Federation Council, because if you don't, you
will never have the reforms codified that you and the IMF feel are
so necessary.

Mr. Summers. Let me just say. Congressman Weldon, how much
we appreciate the work that you have done for a number of years
with the Duma, and I think you are right in your central point that
engaging with any country, you have to engage with the whole of
its government and not just its president; and that should be, and
I think will be, a priority policy going forward.

There is obviously a balance that has to be struck, just as foreign
governments in dealing with our country, there is a role for them
in dealing with Congress, and there is a role for them in dealing
with the Executive Branch, and a balance has to be struck. But I
think there is no question that our approaches, going forward in
Russia, will have to increasingly be from the ground up, and that
is a theme that, if you like, connects Congressman Inslee's concern
with micro-enterprise lending, some of the concerns that were ex-
pressed about making assistance felt directly by the people.

And I think it also goes to your suggestion for a political strategy
in terms of a greater degree of engagement with the Duma. Of
course, we are at a particularly complex moment in Russia's politi-
cal calendar right now, and that is something the United States
needs to be mindful of as it sets policy toward Russia, but I think
that the central point of your eight principles, the need to engage
more deeply with Russian society and not simply from the top
down, is entirely correct.

Chairman Leach. I thank you, Mr. Weldon, for your extremely
thoughtful contribution.

Just in conclusion, let me say that from the American perspec-
tive, the principal issue isn't who lost Russia, but how we can help
save Russian democracy; and I believe it would be an exaggeration
to suggest that Russia is an economic Vietnam, but it would not
be to note that any sense of history requires that the United States
take all credible steps to ensure that the Cold War isn't revisited.

In this context, corruption problems have a capacity to desta-
bilize Russia and, therefore, the international political system.
Issues of corruption and public service ethics have a National Secu-
rity Adviser dimension. In this sense, our committee's basic juris-
diction is over banking, and banks are intermediaries for good or
for evil, and it is a challenge to all of us to ensure that financial
systems are designed to serve people and not insiders, and that is
an extraordinary circumstance that will reflect on, I believe, the fu-
ture of not only U.S. -Russia relations, but much of Western stabil-
ity.

Anyway, we thank you very much for your testimony, Mr. Sec-
retary, and we wish you well. And I would say I am particularly
supportive of your last theme, and that is to begin from the bottom
up, which is implicitly looking at the concerns of people first, rec-

ognizing that governments are to be accountable to people and if
governments aren't accountable to people, other governments ought
to be, and this Government ought to lead the way.

Thank you very much.

Mr. Summers. Mr. Chairman, Ranking Member LaFalce, thank
you very much for having provided me with this opportunity for
discussing both the crucial issues involved in U.S. -Russia policy
and the crucial issues involved in making sure that the United
States takes an adequately vigorous approach to financial crime.
We in the Administration look forward to consulting with Members
of this committee and other Members of Congress on these very im-
portant issues as we go forward.

Chairman Leach. Thank you, Mr. Secretary. The committee will
now ask that the second panel come forward, and I will introduce
them.

Our second panel is composed of the Honorable James Woolsey,
who is the former Director of the Central Intelligence Agency; Mr.
Fritz Ermarth, who is the former CIA Chief Russian Analyst and
National Security Council official; Mr. Paul Saunders, who is Direc-
tor of the Nixon Center; and Mr. Vladimir Brovkin, who is a Pro-
fessor at the American University Transnational Crime and Cor-
ruption Center.

We will begin in the order of introductions and begin with Direc-
tor Woolsey. Mr. Woolsey, please proceed.

Mr. Frank. Mr. Chairman, could you ask people who are doing
business to clear the room. I think we are going to have trouble
hearing. There are various conversations going on.

Chairman Leach. The Chair would ask that there be order and
that it is disconcerting for conversations to take place when our
speakers are proceeding.

Director Woolsey.

STATEMENT OF HON. R. JAMES WOOLSEY, SHEA & GARDNER,
FORMER DIRECTOR, CENTRAL INTELLIGENCE AGENCY

Mr. Woolsey. Thank you, Mr. Chairman. If it is all right, I
would submit this three-page statement and then just speak infor-
mally from it for a few minutes, not reading it.

Chairman Leach. Without objection, and I will say I am some-
what disappointed, because I considered it to be an exceptional
three-page statement, but please proceed as you see it fit, and your
full statement will be placed in the record.

Mr. Woolsey. Thank you, Mr. Chairman.

It is an honor to be asked to testify today on this important sub-
ject. I should begin by ensuring that you realize that my detailed
knowledge of this particular issue — that is, Russian money laun-
dering— is dated, is limited in scope and was highly classified at
the time I was working on it several years ago, because of the
sources and methods that we used in learning about it.

My involvement arose because during 1993, when I was Director
of Central Intelligence, some very able CIA analysts came to me
with an excellent briefing on some aspects of Russian organized
crime. I moved promptly to ensure that very senior officials at Jus-
tice, the FBI, the National Security Council and elsewhere in the
Government received this briefing. I commissioned a special Na-

tional Intelligence Estimate on Russian organized crime that had
limited circulation because of the sensitivity of the sources and
methods. I also put the issue on the agenda of some of our meet-
ings with our allies at very senior levels working on this issue; and
I think that through this, the U.S. intelligence community and the
CIA in particular, performed a very valuable service in putting the
issue squarely before those in our country and in some of our allies'
governments who needed to know about it in order to take appro-
priate action.

I believe that this is one of the most important issues facing the
United States, that is, the issue of large corruption in Russia, of
which money laundering is one aspect, really for three reasons.

First, organized crime and corruption together have the potential
to destabilize the Russian state and Russia can still destroy the
United States within the 30-minute flight time of an ICBM. Thus,
its political instability and the unpredictability of any who com-
mand and control its strategic systems are of course extremely im-
portant to us.

Second, there is the real possibility that Russian organized crime
groups may become involved with the sale of technology or the ma-
terial for weapons of mass destruction, and such sales could be
profitable in the right quarters, for example in the Mideast, to ter-
rorist groups or governments such as Iraq; and this, of course, is
a major issue for the United States.

Third, Russian organized crime can use its resources to corrupt
institutions in the United States, and the recent case involving the
Bank of New York may prove to be one such example.

I have been particularly concerned for some time, Mr. Chairman,
at the inter-penetration of Russian organized crime, Russian intel-
ligence and law enforcement, and Russian business. I sometimes il-
lustrate this point with the following hypothetical: If you should
chance to strike up a conversation with an articulate English-
speaking Russian in, say, the restaurant of one of the luxury hotels
along Lake Geneva, and he is wearing a $3,000 suit and Gucci loaf-
ers and he tells you he is an executive of a Russian trading com-
pany and he wants to talk to you about a joint venture, he may
be what he says he is. He may be a Russian intelligence officer
under commercial cover. He may be part of a Russian organized
crime group. But the really interesting possibility is that he may
be all three, and that none of those three institutions have any
problem with that arrangement.

In addition to the above points, I have said publicly, Mr. Chair-
man, that during the time we were working on this issue of orga-
nized crime in Russia, Mr. Louchansky and his company, Nordex,
were a focus of our attention.

I would point out that since the second week of January of 1995
I have been a private citizen. So let me turn now from what I know
to what I just have judgments about, based on public sources.

I have no reason to dispute the Russian government's estimate
that criminal syndicates now control around 40 percent of the Rus-
sian economy, and as you pointed out in your piece in the New
York Times, Mr. Chairman, there are higher estimates as well.
Former Interior Minister Kulikov said to me last week that the
Duma has passed anticorruption legislation on five occasions that

has either been vetoed by President Yeltsin or sidetracked by him
and his staff in some fashion.

The heart of the matter seems to me to be the difficulty that we
have today in finding an institution or group of individuals with
whom we can work on a long-term basis. I might contrast the cur-
rent Russian situation with that in Italy some years ago, when or-
ganized crime was an extremely serious matter. But by working
with Italian magistrates, who by law and by custom are the "un-
touchables," in a sense, in the Italian system, we were able to help
those magistrates make a substantial dent in the problem of orga-
nized crime in Italy.

In Russia, there are individuals with whom from time to time we
can work, but there does not seem to be a critical mass at the na-
tional level of honest magistrates of this sort, or any other arrange-
ment which gives us a partner on a long-term basis. Perhaps the
presidential election in Russia will bring some developments that
will be positive; I hope so. But it is important for us to do what
we can, even if we operate alone.

Let me conclude with the following point. I have been asked fre-
quently, since the story began to break a few weeks ago concerning
money laundering through the Bank of New York, whether during
my tenure I detected any lack of willingness at the senior levels of
the U.S. Government to hear information about this subject. My
answer to that specific question is, no, I detected no such lack of
willingness as of January, 1995; but during the last several years,
as a policy matter now, we have seen that to an extraordinary de-
gree the United States has become identified with President
Yeltsin and his senior people, the circulating list of senior people,
and we have been quite generous financially, particularly through
the IMF, with sending funds to Russia, and we have pushed for in-
creased tax collections and tight budgets.

Each of these approaches at one time or another had some defen-
sible aspects to it, but if you step back from them and look at the
overall pattern, it is very easy to see, as Congressman Weldon has
pointed out, why ordinary Russians who saw us just a few years
ago in very idealized terms have turned sour on the United States.
In their eyes, we are the supporters of those who have stolen much
of their national patrimony, through a highly corrupt privatization
process particularly, and at the same time we are the ones who in-
sist that the ordinary people of Russia bend their backs even hard-
er. We are seen, in short, by average Russians as supporting the
system and the individuals who are exploiting them.

To them, America won the Cold War and then helped to give
them a capitalist economic system that is modeled not on Silicon
Valley, but on the Chicago liquor market of the 1920's. Something
is badly wrong here, but the roots of the problem don't lie solely
in our knowledge about, or our approach toward dealing with, Rus-
sian organized crime. There are deeper, I think fundamental,
issues in the approach toward Russia that we have, perhaps in a
fit of absent-mindedness, adopted as American policy.

I conclude with one final point, Mr. Chairman. Congressman
Weldon was kind enough earlier this year to have me and former
Secretary of Defense Rumsfeld and several others join him and
other Members of the House in Moscow, meeting with some mem-

bers of the Russian Duma, and I became familiar then with the
program which he described a few minutes ago.

I think that his statement, and some of the questions by Con-
gressman Inslee, as well as your closing remarks and some of the
things that Secretary Summers said, could point the direction to-
ward a rather middle way between the current policy and the with-
drawal from engagement with Russia. In pursuit of such a with-
drawal, some have even proposed cutting Nunn-Lugar funds, which
I think would be extremely shortsighted.

I would characterize Congressman Weldon's overall approach as
a form of "tough love" in dealing with Russia. It has often been
said that the Morrill Act, establishing land grant colleges, and
mortgage interest deductability may be two of the most important
things that the Congress has ever done in terms of building an
educated middle class, and a homeowning middle class, in the
United States.

Many of the analogs that exist to those types of measures and
others in Congressman Weldon's program seem to me to present a
positive approach. Perhaps not every detail ought to be imple-
mented precisely the way it is drafted now, but I believe if those
in the Administration who have fostered the approach that I be-
lieve has not succeeded and has brought us to this point, as well
as those in the Congress who are proposing more or less a complete
withdrawal from dealing with Russia, would get together and focus
on some of the points and issues that Congressman Weldon and
others here have raised, I think there is a way out of this. It will
not be easy, but it does present the possibility of a positive ap-
proach toward engagement with the Russian people in way that we
have not been engaged to date.

Thank you, Mr. Chairman.

[The prepared statement of Hon. R. James Woolsey can be found
on page 246 in the appendix.!

Mr. Leach. Thank you, Mr. Woolsey.

Mr. Ermarth.

STATEMENT OF FRITZ W. ERMARTH, FORMER CIA CHIEF
RUSSIAN ANALYST, NATIONAL SECURITY COUNCIL OFFICIAL

Mr. Ermarth. Mr. Chairman, I am deeply grateful to you and
the other Members of the committee for offering me the oppor-
tunity to testify today on this extremely important agenda.

Staff asked me to say just a word about my background. I retired
a year ago from a 35-year career in serving the national security,
twenty of it working for CIA, and in those years I was a national
intelligence officer for the U.S.S.R., now Russia. I was the Chair-
man of the National Intelligence Council, which prepares national
intelligence estimates. I had two tours on the NSC staff, one under
President Carter, one under President Reagan, and I also served
in private industry.

Throughout that period, I was primarily focused on things having
to do with the Soviet Union one way or another, and of course, I
continued my keen interest in Russian affairs after the collapse of
the Soviet Union.

I would like to focus my testimony on the larger context of Rus-
sian developments that have posed the challenge before this com-

mittee, the challenge of organized crime and its various threaten-
ing practices like money laundering. We can probably need to have
little doubt that our law enforcement agencies and regulators will
come to grip with this challenge. This committee will no doubt help
in that endeavor, but we must keep the most important issues in
the forefront, as the Chairman has done in his public statements
and in his very gracious and, I thought, very timely statement in
the Russian language to the Russian people here today.

We must consider how our country's future security and well-
being will be threatened if, once again, Russia fails in its historic
mission to find a way to an authentic, stable democracy in a just,
prosperous society with a market economy.

My bottom line is that Russia is not lost. That is a strongman
statement, as a matter of fact; we ought to ban it from the debate
from now on since everybody's attention has been got anyhow. Rus-
sia is stuck, stuck in a swamp, between the Soviet past and several
alternative future possibilities, some of them bright and some of
them ominously dark.

The larger purpose of these hearings in this committee and in
other committees at the Congress and in the debate now finally
taking place in our political arena and in our press is to under-
stand Russia's condition and prospects better and to inform better
American policies for encouraging the brighter prospects of democ-
racy and Russian capitalism.

The threat from Russian organized crime springs from two fun-
damental and interrelated realities: first, the grave weakness of
the rule of law in Russia and, second, the perversions of what we
have called "economic reform."

The Communist system was itself a kind of structured lawless-
ness. The Soviet Union had lots of laws. They were really tools in
the hands of those who wielded power to use, abuse or ignore, and
they left plenty of room for ordinary crime, organized crime and of-
ficial crime or what I called authorized crime. And these possibili-
ties of course expanded massively and rapidly with the collapse of
the Soviet order.

The collapse of Communist rule gave free rein to these phenom-
ena in a completely new setting. Now, that new setting, which we
have labeled The Emerging Capitalist Economy of Russia is some-
thing for which I have not found a good definition. It has important
features of democracy and capitalism, but it is not authentic de-
mocracy or complete democracy, and certainly not authentic cap-
italism. Focusing on the business and economic side, I would use
the term "crony capitalism" without capitalism or at least much
capitalism.

By "capitalism," we mean investment for the building of wealth;
that is not what was going on there. We see a lack of firm property
rights and good corporate governance. We see a system that is
more about the distribution and especially the concentration of
wealth than it is about investment and the creation of wealth, and
above all, we see a system that is about the extraction and the ex-
patriation of wealth.

We have used the term "capital flight" here. I think we have got
to have another term for most of this because capital flight ain't
what it is. It is the flight of loot rather than the flight of capital

in many cases. That is not just the criminal loot, but the plundered
wealth out of the natural resource base. It isn't the same as a busi-
nessman in Brazil making a profit on a business and then sending
that money abroad, because it isn't safe or profitable at home.

Now, this came about in large measure because of the manner
in which the reformers of the post-Communist regime tried to cre-
ate capitalism amidst the wreckage of the Soviet order. As one ana-
lyst I have read put it, they proceeded in good Communist fashion
to create a new capitalist class. By basically appointing them, rely-
ing largely on privileged insider relationships, vast resources and
enterprises were placed into private hands, often the old Com-
munist hands, at less than fire sale prices. Enterprises were sold
off at less than the cash value of their annual revenues. Export and
import privileges were handed out to cronies like the sports funds.
Even the church profited from this, alas.

Thus, the process of privatization was, from the outset, a rip-off
at the expense of the state and the society. This, along with the de-
struction, the unnecessary destruction of people's savings through
inflation in the early 1990's deeply blighted the public's view of
capitalism from the outset. The reformers took a course certain to
alienate society. They almost deliberately ignored the task of build-
ing public understanding and support, a theme to which Congress-
man Weldon spoke when he referred to the importance of engaging
the Duma.

Dimitri Simes, known I am sure to all of you who follow Russian
affairs, tells a story of how on his last trip to Moscow, former Presi-
dent Nixon visited with President Yeltsin and urged President
Yeltsin and the reform team to pay more attention to building pub-
lic and Duma support, at least a dialogue in the face of mounting
opposition. President Yeltsin said, "Well, that is not what we are
hearing from Washington. We are told we ought to just ignore
them, the Duma and the opposition." This was in 1993. So the po-
litical— or naivete is not too good a word for it, but whatever it is
on our part started very early.

Now, this style might have worked out had the new owners, how-
ever privileged and unfair their access to this wealth, had they pro-
ceeded to manage their new wealth as real capitalists, as real en-
trepreneurs, by investing, building and creating as our robber bar-
ons did, so-called; but far too often they did not do this. Lacking
confidence that their new wealth could be profitably invested in
Russia, even if they could hold on to it and not knowing in most
cases how to turn resources into new wealth through investment
and entrepreneurship, they all too often simply extracted it,
stripped it, plundered it out of Russia and sent it abroad where it
could be safe and productive, with little work by themselves other
than financial and other kinds of bureaucratic machinations.

In this matter, a country rich in natural resources and produc-
tive potential saw its state and its society impoverished. The soci-
ety and domestic economy reacted with various coping strategies —
barter, trade, moonlighting work. The state had its coping strate-
gies like not paying its bills and then very creative financing called
the short-term capital bond market at high interest rates which
aptly turned into a no-lose casino that eventually had to go bust
despite the lavish spending of the IMF to keep it up.

What we have seen here is not so much organized crime as au-
thorized crime, intertwined with corrupt government and poUtics at
all levels. It has been abetted and has abetted itself by organized
crime with its money laundering, its protection rackets and the
like.

The fundamental misdemeanor of Western, including American,
policy was that it bought into this phony, crony capitalism too
uncritically and for too long, and against obvious evidence you
could have shut down all of Mr. Woolse/s colleagues on this front
and it still would have been obvious. Intelligence brought its own
very special contribution sources and methods of a sensitive nature,
but you didn't need intelligence to see this. You needed an absence
of intelligence — small "i" — to ignore it, but the government wasn't
alone. The mainstream media, the mainstream foreign policy estab-
lishment up and down Mass Avenue ignored it as well. The pro-
tests of Western and Russian observers who knew what was going
on went unheeded.

One of the sad consequences of IMF lending, while aiming to sta-
bilize and grow the economy, it actually lubricated, legitimized this
plundering; at least that was the way a lot of Russians viewed the
political meaning of IMF lending. I think it was more a perversion,
than diversion, of IMF lending. Although I think there was some
diversion, especially in July-August 1998.

If one includes the period of the late 1980's, when much of this
activity was begun under the aegis of the CPSU and the KGB, the
representatives of the Soviet state itself, one might guess from
$200 to $500 billion of "capital flight," "capital loot," has left Rus-
sia.

Now, some of it derives from crime. Some of it was completely
legitimate, although it was trying to escape taxes, but most of it
was in this gray zone derived from phony, crony, insider access to
natural and other resources. Now, some of it comes out to be
laundered, because it needs to be disguised, but a lot of it just gets
deposited, just comes out where it is safe and productive and it
doesn't stay in Cyprus. It goes to the biggest, most productive, most
successful economy in the world, the United States of America.

Here, it goes in several directions. Some stays and takes a nap,
as I say, waiting for future opportunities. Some goes back to Russia
for business, crime, for politics. A lot of it gets invested in portfolios
and real estate and businesses, and I am sure that some of it goes
into political contributions.

Now, that might seem like an inflammatory statement, but I can
make it with confidence for three reasons. First, the logic of the sit-
uation. That is what this kind of money does. It is bipartisan. It
won't go to just one side of the aisle, but that doesn't make sense.
These people don't care about the issues or the values or the poli-
tics. They care about influence.

The second reason, I think, I can make this statement is because
there are some examples in the press over the years; and third, be-
cause FBI people who follow Russian organized crime in this coun-
try have said it is so, it goes on. They don't know quite what to
do about it if it doesn't involve direct violation of law, but they
have told me that it does.

I would assign even greater weight, however, to a more general
problem or threat. Money on this scale acquires friends, and those
friends have leverage. How much leverage and with what effects on
Government policies, I do not know, but that is a proper subject for
inquiry by this committee.

Did Americans heavily invested in the GKO market, this casino,
this no-lose casino that eventually became a plundering of the Rus-
sian state budget for the benefit of Russia and Western specu-
lators— vast profits extracted, vast losses risked — did the stake-
holders in that enterprise have influence over U.S. Government
policy to encourage IMF lending last summer? Mr. Soros and oth-
ers have strongly implied exactly that.

Let me state that the picture, Mr. Chairman, that I have painted
here is deliberately unfair, because it doesn't afford enough atten-
tion to the positive. There is real capitalism and democracy in Rus-
sia. There are decent businesses, honest policemen, clean politi-
cians.

Back to our first point, Russia is stuck, not lost. If the Russians
can somehow get through these elections, the crisis of terrorism,
create a somewhat stable and legitimate government, I believe
there is a possibility that a real window for reform will reopen,
that it could be done right. Certainly it can be done better. I hope
that we shall be ready with supportive policies that are more per-
ceptive, more honest and more constructive than they have been in
the past. At least we have got to quit committing the errors of the
past.

Thank you, Mr. Chairman.

[The prepared statement of Fritz W. Ermarth can be found on
page 249 in the appendix.]

Chairman Leach. Thank you.

Mr. Saunders.

STATEMENT OF PAUL J. SAUNDERS, DIRECTOR, THE MXON

CENTER

Mr. Saunders. Thank you very much, Mr. Chairman. Thank you
also to the Ranking Member and other Members of the committee
for the opportunity to be here today.

Before I start, I wanted to make two minor bureaucratic points.
First, my written testimony was prepared jointly with Dimitri
Simes, the President of The Nixon Center, who unfortunately was
unable to be here today; and second, that despite our respective po-
sitions at The Nixon Center, our testimony does not represent an
institutional position by the center as an entity and expresses sole-
ly our private views. Moreover, to the extent that I drift from the
testimony, I am expressing my views alone.

I will discuss my prepared remarks only very briefly, because I
would like to address some of the issues that came up in the dis-
cussion this morning in a little greater detail.

I think from the discussion this morning, it is clear that the Clin-
ton Administration has been aware of the scope and scale of Rus-
sia's corruption problem for some time, and that, for a variety of
reasons, it has chosen either not to act or to take limited, ineffec-
tive action.

In my view, this is a result of the Administration's overall ap-
proach toward Russia and its division of Russian politicians into
"good" and "bad." This was a gross oversimplification of the situa-
tion in Russia. It led to the Parliament being put into "bad" the
category with some of the consequences that Mr. Weldon outlined
earlier.

It also allowed the Administration to ignore the inappropriate or
questionable actions of the so-called "good people" with con-
sequences that we have heard about today.

Turning to the question of who lost Russia, I don't think that it
is an appropriate debate. Secretary of State Madeline Albright said
last week that it was "arrogant to argue that we could have lost
Russia, because only Russia could lose Russia." I agree whole-
heartedly with that sentiment; but I would take it one step farther
and say that is it arrogant not only to say that we could lose Rus-
sia, but also to pursue the policy that we have pursued in recent
years, believing that we know better than Russia's government and
people what budget deficit level they should have, what inflation
level is appropriate, or which specific people should be part of any
given Russian government. That is one of the major problems of
our policy toward Russia. There was a sense that we somehow
knew more than the Russians did, that we could come up with the
right answer for Russia out of the dizzying array of economic possi-
bilities in the world.

This led us to focus on macro-economic issues, the budget deficit,
inflation rate, and others I mentioned earlier.

These policies were advanced at the expense of other priorities
that would have been much more desirable in the long term, such
as the rule of law.

I believe that if the Administration had pressured Russia and
President Yeltsin more heavily on the rule of law, rather than on
these economic issues, which ended up spoiling relations between
the Russian executive and legislative branches and prevented the
passage of legislation that would have encouraged investment and
limited opportunities for corruption in Russia, we would be in a
much better position than we are today.

On that point, it is essential in thinking about Russia to decide
what our priorities really are. Whether Russia's budget deficit is 3
percent or 4 percent or 5 percent is not going to keep anybody
awake at night in Washington, but if there is a return to some kind
of authoritarian government, or if there is chaos in Russia result-
ing from popular frustration with corruption and other problems,
I think a lot of us could be awake at night.

I would like to make one final point about the debate over our
policy toward Russia. The Administration and its defenders have
frequently tried to cast opponents to their policy as "cold warriors"
opposed to engagement with Russia. I don't think that is really the
correct way to frame the argument.

There are many ways to engage with Russia that will allow us
to have a very productive and mutually beneficial relationship. If
we give more attention to the things that really matter in Russia,
such as creating a rule of law system, we will be much better
served in the long run.

Thank you again.

[The prepared statement of Paul J. Saunders can be found on
page 251 in the appendix.]
Chairman Leach. Thank you, Mr. Saunders.
Professor Brovkin.

STATEMENT OF PROF. VLADIMIR BROVKIN, PROFESSOR,
AMERICAN UNIVERSITY TRANSNATIONAL CRIME AND COR-
RUPTION CENTER, ACCOMPANIED BY PROF. LOUISE SHEL-
LEY

Mr. Brovkin. Thank you very much for the opportunity to speak
before this committee. I also should say that I am particularly hon-
ored to be here, as I am a Russian-American. I spent half of my
life in Leningrad, U.S.S.R., and the other half in the United States,
having been educated in this country, but devoting my professional
life to the study of Russia; and I am particularly grateful to my col-
league and friend, Louise Shelley, the Director of the Transnational
Crime and Corruption Center, with whom we have been working
for the last two years on the problem of organized crime and cor-
ruption in Russia.

The written part of our remarks has been developed by the three
of us — the two Directors and I, Keith Henderson and Louise Shel-
ley. I will summarize briefly our major points, and also as we go
along, give a couple of examples about the issues that we have de-
veloped in these remarks.

First of all, I should say that in the two years that we have been
working on this project, actually funded in large part by a Depart-
ment of Justice grant, we have come in contact with many, many
Russians — journalists, politicians, prosecutors, street cops — and we
have developed very good relations with many of them. In July
1998, we held a money laundering conference at the Federation
Council in Moscow which was extremely useful and very revealing
in terms of the processes and mechanisms of how money launder-
ing works; and a lot of debate was going on about the formulation
of the money laundering law in Russia, which still hasn't been
passed. It also showed that the term "money laundering" is under-
stood in quite a variety of ways and certainly very different from
what we understand here in the United States, which also needs
to be addressed in a future discussion.

We have just returned from Moscow, where we had a conference
on corruption, sponsored by us and our partners in Russia with the
Institute of State Law and the Russian Academy of Sciences, and
I am not going to spend time summarizing it. It is all going to be
on our Website. But what I would say is, I was struck with the de-
gree of openness, the degree of frankness when the Russian pros-
ecutors and officials were talking about their problems in front of
Americans. This was totally inconceivable five or six years ago, let
alone in the Soviet period.

Moreover, what I also think you all will be pleased to hear is,
the kinds of proposals they have developed are very much in the
American spirit. They were talking about the conflict of interest
law that they would like to introduce, about the statement of in-
come for the relatives of civil servants, about the ethical code of be-
havior for the civil servants and many, many other interesting ini-
tiatives. So it is one more time to emphasize that when we do

speak about corruption and organized crime in Russia, that should
not mean that there are no serious attempts made by many honest
Russians to combat this problem.

But now to our comments, and essentially what we are arguing
in this paper, in this presentation, is that the scandals that have
been filling the pages of the world press recently are a wake-up call
that reveal several fundamental problems that have been plaguing
the Russian and American financial communities. It should be a
wake-up call to the Congress, to the White House, to multilateral
institutions such as the IMF and the World Bank, financial institu-
tions and regulators, and the public at large.

We do have extensive analysis of the mechanisms of the phe-
nomenon of money laundering and capital flight, and in a nutshell,
we are convinced that it is not just a Russian problem. It is not
just a Russian organized crime issue, because respectable American
and multinational companies, financial institutions in many coun-
tries— in U.S., Swiss, Russian, United Kingdom, Cyprus, and many
other offshore zones — have been involved in this, and therefore, if
money was flowing through all these places, it is not just a Russian
problem. There is a serious problem on this side. Some of my Rus-
sian colleagues tell us, "You" — meaning Americans — "benefit from
this; you make all the money and we lose all the money." So this,
of course, is something that should be of concern to this committee,
that Russia is losing capital it badly needs, that is, of course, leav-
ing Russia for a variety of reasons.

What we have done in our TraCCC Institute is reconstruct some
of the models of illicit capital flight and try to develop typologies
to distinguish what is a capital flight, as opposed to theft of natural
resources, as opposed to illicit proceeds that would be criminal
under one system and not criminal under another system.

We have a term, such as "skimming," which is double accounting,
which is a part of the resources are exported, and if the revenue
stays in the West, if they had to pay taxes, it would be totally le-
gitimate parking of your capital abroad. If they have done that,
then there is no crime of any kind; but if they not paid taxes to
the Russian authorities, then it is tax evasion. But again, it de-
pends on which law and in which country the money is parked.

We are also developing typologies of how front companies, or
what the British call "shell companies" operate, and that concerns
mostly the Russian export sector. And that, of course, directly in-
volves money laundering, but again it depends which laws have
been broken and in which country and whether that would qualify
as money laundering or not.

Our estimate is that of the total figure, $15 billion, that is leav-
ing Russia, probably about a third is what you could call hard-core
criminal proceeds; the rest of it is either semi-legitimate or simply
money parked abroad since the ruble is undesirable currency.

We believe, and we do state in this statement, that these proc-
esses represent a national security threat to the United States, to
the financial stability of the Free World and also to Russia, and of
course, many other countries such as Mexico, Indonesia, and
Brazil. We do think that it is essential to rethink the financial
structure and the national security aspects of it; and it is my term
that I add, that we need to think about containing the threat of

global organized crime with the same seriousness as we thought
about containing communism, because in today's world the
transnational organized crime networks represent just about an
equal danger to the financial stability of the United States and the
world as did the Communist threat, if not more so.

We also believe that if left unchecked, these processes of corrup-
tion and organized crime will lead to serious social damage to Rus-
sia and CIS countries and many other developing countries, be-
cause dirty money feeds the caucus of criminal networks involved
in a number of activities we studied, such as nuclear and weapons
smuggling, narcotics trade, and trafficking in human beings, espe-
cially exploitation of women and children. So there is a component
of human rights here that is extremely important.

As far as the loans are concerned, much has been said today
about this, the IMF and the World Bank. We are convinced that
new policies and procedures for dispensing and monitoring aid and
loans must be developed. As Keith Henderson put it, "Know your
donee" rules, conditionality, sanctions, independent audits and civil
society monitoring and oversight mechanisms must be developed
and enforced. For diplomatic and political reasons, government and
multilateral companies may have to sometimes deal with corrupt
public officials. However, they should not do so with a blind eye to
accountability.

And here I should add in view of the discussion this morning
that I myself was in Russia, as a matter of fact, attending the
money laundering conference in June 1998, exactly June 1998, and
this is in regard to Congressman Weldon's comments. And that is
that this is the time, if you recall, that Mr. Chubais, who was ap-
pointed as the negotiator on the Russian side with the IMF, and
the way it was presented when finally the news broke that the IMF
released the tranche was that the Duma would have to accept an
anticrisis program. But nobody knew, and it was never publicized
or said anywhere what exactly IMF wanted Russia to do. So the
Duma perceived this as a kind of a hidden deal behind closed doors
between Mr. Chubais and the American Government.

Now, to make their fears worse, Chubais appeared on national
TV — and I saw it myself — and he said if the Duma does not pass
an anticrisis program, the administration, meaning President
Yeltsin, would find other means to implement the program which
was, of course, a clear threat in regard to the Duma. Now, of
course, the Duma would not be very happy with operating under
such conditions.

What we are suggesting is that there should be more trans-
parency in the interest of the IMF and accountability in the way
that deals are concluded and adopted.

And finally, one more point on this subject that Secretary Larry
Summers was talking about this morning, and that is that there
is an open revolving door. Where is the money of the IMF? And
when it goes into the budget, you would never know whether that
is the budget or not. But let me give you an example of the situa-
tion at that time, June-July 1998.

Suppose that you know from the inside of the government that
$4 billion is coming to the Russian budget. Now, what does that
piece of information mean? It means that immediately the GKO

rates go up, because everybody knows the government will have
more money. So that means that from 60 percent, in two weeks,
the Russian GKO market rates went to 123 percent, which means
that if you are buying up the GKO, you are making a lot of money
in full confidence that the government will support the ruble, that
is, will support its financial system.

In other words, what is happening is that the IMF money is com-
ing into the budget and the state is giving it away essentially to
privileged banks through the mechanism of high interest rates on
GKO.

In other words, you don't really need to siphon off or channel any
of the IMF money on the side. You do it by buying GKO at 123
percent a year, and conversely, if you do know that the ruble is
going to fall, you sell the GKO and that is how several of the Rus-
sian privileged banks made a lot of money in August.

Mr. Leach. Thank you, Mr. Brovkin.

Can you summarize very quickly your statement? You are going
on a little bit longer than the other panelists. Can you summarize?

Mr. Brovkin. Yes.

Finally, I go to our recommendations in one minute. I think that
it is essential to rethink the regulation of the financial market
mechanisms as was spoken today, before. We believe it is essential
to be more vigilant in addressing grand corruption and no looking
the other way, regardless of how high ranking the government offi-
cials are. The lawyers, investment bankers, accountants, were in-
volved in facilitating corruption in organized crime, and it must be
subject to great scrutiny and appropriate sanctions.

We believe that it is essential to foster interagency cooperation
both in drug-related and in non-drug-related money laundering be-
tween the intelligence community, law enforcement, political and
financial analysis between the United States and Russia.

We also believe that it essential not to politicize the issue of cor-
ruption in Russia, but rather present it in a way that the Russian
people will be the beneficiaries if they have a clean government, if
they have transparency and if they have banks that keep their
money rather than expropriate it every several years.

Next point, we believe that it is essential to restructure the Rus-
sian banking system. Much was talked about it this morning, to
abolish the privileged banks that handle the state budget and are
a source of corruption and money laundering. It is essential to
work together with the Russian financial institutions in trying to
implement the kind of ideas we heard this morning.

It is also important to bring money from the shadow economy
into the real economy and institute a number of measures with
international support that would make repatriation of Russian cap-
ital into Russia. If things go the way they do, Russia will have seri-
ous economic and political upheavals. The country cannot sustain
a loss of $15 billion a year.

Russia needs to enact legislation and adopt effective enforcement
strategies in the judicial and taxation sector. Great oversight is
needed in the international loan policy. More attention must be
paid to preventing diversion of money by corruption and organized
crime.

And finally, the tenth point, great attention must be paid to de-
veloping policies to seize and repatriate assets and to promote de-
velopment in public policy goals.

Thank you.

[The prepared statement of Prof. Vladimir Brovkin can be found
on page 255 in the appendix.]

Chairman Leach. Thank you. Professor.

Let me turn first to Mr. Woolsey. In your statement you indi-
cated that in 1993 you approached high levels of the Government,
the IG and Justice Department, and so forth, about information
your agency received related to corruption. Can you tell us, did this
information that you relayed involve government officials and offi-
cial resources, Western or Russian?

Mr. Woolsey. This did not really focus on the senior individuals
in the Russian government at that time, Mr. Chairman. It was ba-
sically, as I recall — and I haven't read it now in over five years —
concentrated on how organized crime was working in Russia, what
areas they were getting into, how successful some Russian orga-
nized crime groups had been, and it was basically sort of an intro-
duction to the seriousness of the problem. But at that point in
1993-1994, I don't recall that any of our focus was that there were
really any indications of corruption at very senior levels of the Rus-
sian government.

Chairman Leach. You referenced in your testimony a concur-
rence with some of the statements of one of your successors, Mr.
Deutch, about the Louchansky-Nordex matter.

Mr. Woolsey. Yes.

Chairman Leach. I wonder if you could provide the committee
some perspective. Who was Mr. Louchansky? Who was Nordex?
What is the relevance of this, particularly to Mr. Ermath's asser-
tion that perhaps there are political monies that have entered into
the American process.

Mr. Woolsey. Mr. Chairman, my recollection of the details of
that analysis, as I say, are over five years old. I haven't read any
of that material since then.

At the time, the reason it was so highly classified was because
of the sources and methods, and I am a bit afraid to start trying
to speculate about what I remember from them and what might
still be classified or not.

I am sure the Intelligence Committees have copies of that esti-
mate, and I would really prefer if in some executive session or in
some way, hopefully with the cooperation of the Director of Central
Intelligence, they, or I in some fashion, could go over this in execu-
tive session. I would need to refresh my recollection and also find
out exactly what is classified in what way.

Chairman Leach. Fair enough.

Mr. Ermath. Mr. Chairman.

Chairman Leach. One second, Mr. Ermath.

One of the concerns as a committee is, we look at the problem
of corruption abroad, how do you present shields to your own coun-
try and have those shields work? And Mr. Ermath has asserted
that he believes that there may have been monies that have seeped
into the American political process.

And I would like to ask you, Mr. Ermath, if you could elaborate
on that assertion.

Mr. Ermarth. The Louchansky case is one of the more promi-
nent that I know about in the public domain. It has just been re-
ferred to in the press. In fact, most of the Louchansky story is in
the public domain, because of press coverage in Europe and in the
United States over the years.

He was one of those operations that was set up in business by
the KGB in the late 1980's that semiprivatized himself after the
collapse of the Soviet order. The political contribution arose in 1993
when he attended a fund-raiser in New York with an American
friend, and the allegation was, he just wouldn't have been there if
he hadn't made a contribution.

Another case is Golden Ada, a company in San Francisco since
dissolved and defunct, set up in the early 1990's to cut, polish and
market Russian diamonds and other precious metals and stones,
receiving hundreds of millions of dollars of diamonds and gold,
platinum, which they just pocketed the proceeds; and they are
known to have made political contributions in the San Francisco
area.

I simply cite those as attention-getting public cases. I would rest
more on the direct assertions admittedly in private settings by col-
leagues and the FBI who say, yes, it is happening at the Federal
or at the State and local and probably at the Federal level as well,
at least in the States where there is a substantial Russian business
influence from offshore. There is no attempt here to impugn the
honesty or patriotism of Russian-Americans who now live in this
country in fairly substantial numbers, but it is money coming from
offshore.

Chairman Leach. Thank you. Does anyone else wish to comment
on this subject?

Mr. LaFalce.

Mr. LaFalce. Mr. Brovkin, I just want to find out a bit more
about the Transnational Crime and Corruption Center. Are you af-
filiated with American University in some way?

Mr. Brovkin. Yes.

Mr. LaFalce. When did it come into existence?

Mr. Brovkin. In the current form, it was founded in 1997. Before
that it was a smaller program, a grant program funded by the Mac-
Arthur Foundation. But the founding person is right here; it is
Louise Shelley. I joined the crew in the fall of 1997. Before that,
I taught at Harvard University in the Russian Research Center.

Mr. LaFalce. Well, either of you can respond to my questions.
You made reference to the studies that you did which were enabled
by a Department of Justice grant.

Can you expand upon this Department of Justice grant, please?

Mr. Brovkin. Could I ask Louise Shelley to answer?

Mr. LaFalce. Surely.

Chairman Leach. If you would introduce yourself for the record.

Ms. Shelley. I am Professor Shelley of American University. I
am the Director of the Center for the Study of Transnational Crime
and Corruption. The reason Professor Brovkin has asked me to
comment on this is that I was the principal investigator on these
proposals before Professor Brovkin arrived on the scene, and we

have been running projects in Russia and now in Ukraine with
Russian colleagues and Ukrainian colleagues — in four cities in Rus-
sia and one in Ukraine — to study problems of organized crime and
corruption.

With them we have worked with members of the Russian Par-
liament and produced publications and seminars and training for
law enforcement.

Mr. LaFalce. Can we focus in on the Department of Justice
grant, Ms. Shelley?

Ms. Shelley. That is the Department of Justice grant.

We also have a second grant

Mr. LaFalce. You say that is. What is?

Ms. Shelley. We have two grants from the Department of Jus-
tice out of the Coordinator's Office administered by the Department
of Justice on organized crime studies.

Mr. LaFalce. Did they put out solicitations for these grants, re-
quests for proposals?

Ms. Shelley. Yes.

Mr. LaFalce. When did they do this?

Ms. Shelley. When this project first started — it was in 1995 —
we received initial funding from the McArthur Foundation and
some additional money from AID. That funding ran a total of a
year. After that point, the FBI and the anti-corruption working
group within the U.S. Embassy in Moscow began to participate in
our programs and asked us to make a formal application for fund-
ing to the Coordinator's Office at the Department of State for as-
sistance to the former Soviet Union for a full-scale program in Rus-
sia, at which point I developed such a proposal that went through
appropriate committees, and it was then given to the Department
of Justice to administer. So we have been receiving Department of
Justice funding since 1997.

Mr. LaFalce. 1997? How much is that for?

Ms. Shelley. In this year, our funding — we are still operating
our 1998 money — is approximately $300,000. We submitted all of
these reports with our testimony.

We also received funding — Dr. Brovkin and I wrote last year a
proposal to international law enforcement at their request to study
money laundering and front companies. That money from inter-
national law enforcement at the State Department was transferred
to the Department of Justice to administer, and we started working
on that this spring.

Mr. LaFalce. I am just wondering to what extent the Justice De-
partment was involved in investigating whatever money laundering
problems may have been in existence in connection with Russia, or
corruption problems, at the time of their request for proposals and
whether your work was enabling to them in carrying out and en-
forcing the United States law?

Ms. Shelley. We would certainly hope so.

At other points. Professor Brovkin and I have given lectures in
1999, to the strike forces on organized crime to help them under-
stand these issues. We have sat with prosecutors and tried to bring
the results of our research to bear.

Mr. LaFalce. And you work with officials from the Treasury De-
partment? Did you work at all with officials from the national regu-

latory agencies, whether it is the Federal Reserve or the OCC or
the superintendent's office from the State of New York?

Ms. Shelley. We have met on just one occasion with the Depart-
ment of the Treasury. We have also met with top officials at the
World Bank on these issues in the last year. But we have not had
other contact than those. Our contacts have been primarily with
the Justice Department on these issues.

Mr. LaFalce. Did your studies investigate the nature of the pri-
vatization process within Russia and the tremendous potential for
either good or bad or exploitation of that process?

Ms. Shelley. I have even testified before Congress many times
on the misuse of privatization and the abuses that were committed
in this process and gave lectures to the State Department and AID
on this issue already four years ago.

Mr. LaFalce. Would you give me the list of each of the occasions
that you testified before Congress and each of the United States or
international financial institutional entities that you have spoken
before on this subject, please?

Ms. Shelley. Yes.

[The information can be found on page 261 in the appendix.]

Mr. LaFalce. Thank you.

Chairman Leach. Thank you, Mr. LaFalce.

Mr. Bereuter.

Mr. Bereuter. Thank you, Mr. Chairman.

I want to say to the witnesses that I regret not hearing your oral
testimony. To the extent that you have submitted written state-
ments, I have read them in advance.

I simply wanted to ask all of you, in order, if you can respond
as directly as possible about what is, in your judgment, the pri-
mary thing that we in the Congress, or the Government generally,
can do to reduce money laundering activities from Russia that take
place in this country, and including those that involve American fi-
nancial institutions?

Could I start with you. Director Woolsey?

Mr. Woolsey. Yes, Congressman Bereuter.

The money laundering itself is, from my point of view, a problem
in two ways. One is what you mentioned, that it runs the risk with
large deposits in this country of corrupting American institutions.
And about that I have no specific learning or expertise. It is obvi-
ously a very important issue and important to this committee.

But from my background and perspective, one second very trou-
bling aspect of it is that it is evidence of corruption in Russia which
undermines the structure of the state. Sometimes it is hard to tell
money that is simply being deposited here from money that is
being laundered. Aiid although capital flight is a problem from
Russia, the real problem, in the second sense that I was describing,
seems to me to be that the laundering of it is evidence that particu-
larly the privatization process in Russia was so corruptly handled
that individual Russians have lost confidence with the stability of
their state and of our involvement with it.

I really think that the primary effort on that second problem
ought to be best dealt with by a program something along the lines
of what Congressman Weldon has proposed, which moves us in the
direction of working with those honest institutions in Russia — and

<;o.fifiQ on .'i

there are definitely some at the oblast and krai level — in the direc-
tion of working together with proper Russian financial institutions
on mortgages for home-owning and the like, so that ordinary Rus-
sians see that American efforts are going to help them, rather than
to being diverted into corrupt channels. That seems to me to be,
again from the perspective of my background and interests and
focus, a very, very major problem. It is the major difficulty that
over the course of the last several years our policies have not fos-
tered that.

So I guess I will close with those two points.

Mr. Bereuter. Thank you.

Mr. Ermarth, would you comment on what is the most important
thing we can do to stop money laundering in this country, whether
or not it involves American institutions?

Mr. Ermarth. Two things, sir. First, the mandate of this commit-
tee directly to craft laws and regulations and institutional change
that causes the regulation of our financial institutions to catch up
with the globalization of everything. It is not just Russian money
laundering.

Second, to contribute to the larger debate in the Congress and in
the public about Russian policy so that when and if a new window
of opportunity for reform in Russia opens up we have the policies,
the perspectives, the strategies ready to go, as it were, that can re-
spond. Congressman Weldon has a list. Others have lists. In effect,
it is an answer to Congressman Frank's question, what could we
have done better?

The alternatives were there in the past: more honesty, more
transparency, more rigorous and thoughtful conditionality. It does
not necessarily mean tighter, but about things that really matter
like law and order, the courts, the civil code. And, finally, not so
close in identification with certain individuals and a certain clan of
politicians.

Mr. Bereuter. Thank you.

Mr. Saunders, would you respond, if you wish?

Mr. Saunders. I don't have anything to add. I endorse the com-
ments of both of the previous witnesses.

Mr. Bereuter. Let me then get Professor Brovkin an oppor-
tunity in my five-minute period.

Mr. Brovkin. In addition to what has been said already, which
I completely agree, I just simply want you to keep in mind when
developing these transparency and honesty systems and legislation,
to keep in mind that it is in the national interest of the United
States to keep the goodwill of the Russian people which is now
turning sour, and that Russian people, because of the failed re-
forms, increasingly perceive the United States as the country that
is partly responsible or guilty of the misery that they are in. They
identify misery with capitalism, capitalism with failed democracy.

I think it is extremely important to realize, before it is too late —
and it could be too late at some time down the road — that you have
got to change course and make sure that the Russian people under-
stand that U.S. policy is for them, and not necessarily for whatever
political leader happens to be there at the top.

Mr. Bereuter. I understand. That is good advice.

Thank you, Mr. Chairman.

Chairman Leach. Thank you, Doug.

Mr. Frank.

Mr. Frank. Mr. Brovkin, I, Uke Mr. Bereuter, have read the
statements. I wasn't able to be here for them.

You made reference to a fund-raiser in 1992 that a Mr.
Louchansky gave money to.

Did I hear that correctly?

Mr. Ermarth. That is what has been reported.

Mr. Frank. Whose fund-raiser? Who was the beneficiary?

Mr. Ermarth. Democratic National Committee.

Mr. Frank. In 1993?

Mr. Ermarth. The man's name is spelled in a somewhat
Frenchified, Frankified manner. L-O-U

Mr. Frank. Let's stick with Frenchified. You can give that off of
my minute. You can give that to the reporter off of my time.

Mr. Ermarth. If you do an Internet run, you will get it all.

Mr. Frank. Mr. Saunders, first, your criticisms of some of the
kind of macro- and micro-economic policy I was pleased to hear, be-
cause I think what we get here are the common themes — to some
extent these are not Russian-specific, but IMF-specific. There is an
underlying problem that many of us have had with an IMF imposi-
tion, one of too much specificity and too much austerity. Professor
Brovldn, you have summed what I have found to be the problem
with that.

We get this identification, because very often we are simulta-
neously implementing IMF policies in newly democratizing coun-
tries, and we give people this notion that austerity and democracy
go together and that paying more for your food and paying more
for necessities is somehow a consequence of democracy.

I would say, Mr. Chairman, I said this to Mr. Summers before,
it has relevance to a piece of legislation that we are going to deal
with. I believe morally there is nothing more important for us than
to pass the legislation dealing with the heavily indebted poor coun-
tries. But I don't believe the votes are here in this House, nor
should there be, to put that to the ESAF, to put that through the
economic structural adjustment fund of the IMF for some of the
kinds of reasons we have had here.

But back now, if I could, to Mr. Saunders. As I said, I appreciate
that, because I did want to say that in context. It is a problem of
our Treasury and IMF and other treasuries in general. Part of the
problem is — and maybe we ought to look at this, Mr. Chairman.
We ought to maybe get the State Department and open entities
into this.

The problem is that increasingly in the world today foreign policy
is heavily influenced by the World Bank and the IMF — I think the
Bank has been much better than the IMF — and they are run by
treasuries. There is a structural problem. The political element, the
people who appreciate democracy, the people who appreciate some
of these kinds of considerations are literally out of that loop. We
have only the treasuries to the IMF and other financial institu-
tions, and I think that should be looked at.

Mr. Saunders, let me ask you just one question. You said that
we made a mistake when v/e divided the Russians into the good
guys and the bad guys. None of us have trouble thinking of good

guys who aren't such good guys, but I am wondering, who did we
inappropriately characterize as bad guys to whom we should have
been more neutral? Because I have a harder time coming up with
that list.

Mr. Saunders. I tried to answer that question earlier in my
opening statement. I think one of the groups that was inappropri-
ately characterized as "bad guys" was clearly the Russian Par-
liament. They obtained this label, "Communist dominated," which
ended up in virtually every speech or piece of press reporting on
Russian political developments. I think that had a very negative
impact.

Mr. Frank. I think those two tie in, because that would be true
of other parliaments in other countries, which is parliaments are
necessarily, understandably, less inclined to raise food prices and
cut unemployment benefits and throw people out of work.

What we are really talking about is a conflict between financial
orthodoxy and democracy. I guess those who have been unable to
get the American Congress to do some of those things should not
be surprised when the IMF is unable to get other parliaments to
do it.

The only other thing that I would have to say — and I must say,
Mr. Saunders, in the statement, that I did read the statement, my
guess is the State Department probably would be pointing with
pride to your giving credit for successfully influencing Russian pol-
icy with regards to Bosnia, Kosovo, Iran, and I would throw in
NATO. I was wondering before about where the tradeoff would
come, because you can't obviously — one other area — and I was won-
dering if I read you correctly, because you also throw in here
macro-economic policy.

I gather your tradeoff would have been more sort of stricter legal
regularity and less concern with both macro- and micro-economic
policy, less fiscal regularity?

Mr. Saunders. That is correct. I would also consider tradeoffs on
some of the foreign policy issues, but that is probably not germane
to this.

Mr. Frank. Oh, yes, it is. Go ahead.

Mr. Saunders. I think if we had tried to work earlier and more
cooperatively with Russia and Yugoslavia, we might not have
ended up having to lean quite so hard on them toward the end.

Mr. Frank. I guess I didn't — I need more elaboration on that. I
must say you could hear an enormous sigh of relief that almost
raised the Capitol dome when the Russians threw in with us and
helped bring about an end to the terrible time that we faced in
Kosovo. Certainly any suggestion that that tradeoff should have
been made we wouldn't argue. You are saying we could avoided
that earlier on, but I would have to, since I have run out of time,
close with just a skepticism about that without a chance to discuss
it.

Chairman Leach. Thank you.

Mr. Royce.

Mr. ROYCE. Mr. Woolsey, thanks for being here today.

Five-and-a-half years ago, you appeared before the International
Relations Committee. At that time, I asked you about the extent
of the former Soviet KGB involvement in organized criminal activ-

ity in Russia, which was then becoming evident. Today, that prob-
lem has mushroomed beyond Russia, becoming a transnational and
international issue.

The question that I would ask is, what is the extent of Russian
internal security, electronics intelligence, and foreign intelligence
agency operations against American banking interests, American
banking and in business? One of the reasons that I ask that ques-
tion is because a Russian external intelligence spokesman has said
that they are focussing less on foreign ministries and defense and
now more on foreign ministries of finance. If so, that means that
the United States Treasury Department, the Federal Reserve, and
the banking and financial systems are targets of Russian espio-
nage.

My question is, how much does the FBI know about Russian in-
telligence against American banking and business and what is
being done to alert those agencies and businesses to the problem,
to help them counteract the problem and take countermeasures?

The second question that I would ask is, if there were violations
of U.S. and international law on the part of U.S. Government offi-
cials with regard to U.S. financial aid to Russia, what is the appro-
priate agency to investigate those violations? Would it be the Gen-
eral Accounting Office, the FBI, the Justice Department, the Fed-
eral Reserve? Which agencies would investigate the IMF?

Should international investigating and forensic auditing compa-
nies be used more aggressively to get to the bottom of the Russian
corruption is another question, and how can we ensure against fu-
ture looting of U.S. assistance?

Mr. WOOLSEY. I will give a try to those. Congressman.

First of all, let me say I am four-and-a-half years out of date with
respect to any classified information on this, so what you are really
getting from me is essentially the reactions of a rather careful
newspaper reader.

Also, with respect to the law enforcement questions, of course,
our responsibility out at the CIA was, whenever any indication of
a violation of law by an American citizen might have come across
the screen as a result of foreign intelligence collection, to refer that
to the Department of Justice and then get as far away from it as
possible. The CIA doesn't look into matters that might involve
lawbreaking by Americans.

So for two reasons my knowledge is limited here.

I have spent some time over the course of the last several years
on a panel with Arnaud de Borchgrave and Frank Ciluffo, who will
be testifying next, at the Center for Strategic and International
Studies where we have looked into both Russian organized crime
and cybercrime as well as a number of related issues.

My judgment is that, with respect to your first question, the im-
plication is quite correct that there has come to be a good deal of
focus by combined efforts of Russian intelligence and Russian orga-
nized crime interests on Western, and particularly American, fi-
nancial institutions. But with respect to the scope as distinct from
the direction, I don't have any specialized knowledge or judgment.

I think that, as far as violations of the law by international fi-
nancial institutions are concerned, in the first instance, if Amer-
ican citizens have been involved in any such violations of law, that

should immediately go to the Justice Department and presumably
the FBI.

The international financial institution itself in its official capac-
ity presents, of course, a very complicated question. Most of these
institutions have immunity from prosecution or lawsuits in the
United States for one reason or another. I have been involved in
arbitrations against the United Nations as an institution, and cer-
tainly we could handle something by arbitration there, because of
the arbitration clause in the contract, but we could never have
brought them into court.

I think I will have to stop at that and suggest that, with respect
to what the FBI knows or the violations of law by American citi-
zens, that you need more specialized counsel on those subjects than
my background is able to give you.

Mr. ROYCE. I thank you, Mr. Woolsey, Mr. Chairman.

Chairman Leach. Mr. Royce.

Mr. Ryan.

Mr. Ryan. Thank you.

Dr. Brovkin, I was very taken by what you had said about the
Russian people are losing faith in America and in American policy
toward them, because their version of capitalism is this crony cap-
italism that we talk about.

Mr. Saunders, you mentioned that our American policy — our Fed-
eral Government's policy has been, pick the good guys, pick the bad
guys, and stick with the good guys regardless of whether or not we
find out or determine that they are bad guys.

This leads me to a question for you, Mr. Ermarth. In a recent
article, I think it was in Insight magazine this week, you said that
you felt pressure to whitewash intelligence reports about corrup-
tion in Russia. And, further, career diplomats at the U.S. Embassy
in Russia confirmed your statements; and the article discussed a
top secret 1995 CIA report on Chernomyrdin and other Russian
leaders that elaborated on their affiliation with corrupt activities
and organized criminal figures.

How did the White House and the Vice President's office receive
this report? What was the reaction to the allegations of corrupt ac-
tivities to the so-called good guys?

Mr. Ermarth. Mr. Congressman, I have never written anj^thing
for Insight magazine, so they must have been quoting me from
something else.

Mr. Ryan. It was a quote — let me — it may have been from
that

Mr. Ermarth. in the national interests.

In the article that I did write, I alluded to a variety of problems
we had in dealing with Russian organized crime, corruption and of-
ficial corruption, high-level kind of corruption.

There was some pressure because, in a variety of mostly subtle
ways the people who made policy on Russia, the Administration
made it clear they didn't want to hear much about that, at least
allegations of high-level corruption.

I wasn't in the line of fire directly. I got most of this from the
analysts who were. They came back from the meetings and told me
about it because I was taking an interest in this almost as a case
study in post-Cold War problems. We have had so many faces to

it, nuclear proliferation, almost — it was crime. It was KGB intel-
ligence. It was politics. It was business. It was banking. It is for-
eign affairs, even, because it affected our diplomacy. A lot of these
people had Israeli citizenship and so forth.

So I was watching how this evolved. And the analysts had a lot
of problems, because of the political distaste for what they had to
say, partly because they couldn't bring all of the different pictures
and pieces of the picture together, partly because economists didn't
know how to deal with corruption and crime as an analytical prob-
lem. So there was a lot of problems.

It was in this context that a story arose and a report went down
to the White House to Vice President Gore's office, and he came
back with the so-called barnyard epithet.

I will tell you, as an intelligence officer, you have got to make
judgments about the truth or falsity of what you hear. I heard it
from so many people that I think it is true. I never saw it, however.
And now they can't find it.

Mr. Ryan. Are you saying

Mr. Ermarth. It is a bit of a symbol of the problem for which
there is a lot more

Mr. Weldon. If the gentleman would yield, I would not nec-
essarily put you in the position of stating that barnyard epithet,
but would you characterize the tone of the barnyard epithet in
terms of what it meant to the report?

Mr. Ermarth. Yes. It was quite clearly dismissive of what was
in the report. But there again, I just heard it so often that I be-
lieved it was true. But that was not the basis for my belief that
there was a resistance to this from policymakers.

Mr. Ryan. So what you saw in the intelligence community was
a shift from the White House and policymakers from deep analysis,
objective analysis to one of more agenda-driven analysis on intel-
ligence reports?

Mr. Ermarth. I found that to be the case across the board. Re-
member, this was a period in which two contradictory things were
happening. On the one hand, the topic, the agenda of intelligence
was spreading out over a lot of issues, not anew, but new priorities,
and all of them quite difficult and demanding of manpower in the
field for collection and at home for analysis. At the same time,
there was downsizing of the work force. And you throw on top of
that the fact that Russia was kind of unfashionable in the early
1990's because it was redolent of the Cold War, and there were all
of these other things to put people onto. Yes, there was a shrinkage
of the resources for deep analysis. Some people pretended the in-
box

Mr. Ryan. I guess my final question, seeing that the red light is
about to go on, is why — I would like to ask all of the panelists
this — why this shift in intelligence attitude?

It is understandable that we don't want to do things that drive
nationalization in Russia, that we don't want to push them away
from freedom and democracy and capitalism, that we want to go
down the road. But it seems as though the attitude from the Ad-
ministration has been one of receiving intelligence reports that are
more preferable to the political agenda than receiving intelligence
reports that are more factual or accurate. Why is that? I would just

like to see if anybody would care to answer that question, what
your opinion would be.

Mr. WOOLSEY. Congressman, I will take a stab at that.

I have always said that the principal qualification of Director of
Central Intelligence is that you don't want anyone on the job who
wants too much to be liked, because you are always, if you are
doing your job right, the skunk at the garden party. You are not
a participant in the policy process directly. I think you should not
be if you are doing the job right. You should not be making policy
recommendations, because then the other players. State, Defense,
and so forth, will believe that you are skewing what you estimate
in the direction of supporting your own policies. You are the only
person at the table who should, I think, have no stake in the policy
outcome. Just call it like you see it. Sometimes you are right.
Sometimes you are wrong.

During the first two years of the Administration when I was the
DCI, we did have the phenomenon that Fritz describes of declining
resources and a need to focus a great deal on the newer issues. But
I felt one of the newer issues we were focusing on and, as I said
in my testimony, I did not detect any lack of interest in it or subtle
signals to turn away from it, was Russian organized crime.

I would not say the same of some other questions. There were,
for example, a number of times which I forwarded or made assess-
ments about what was going on in Haiti, that I felt there was a
great deal of body language in other parts of the Administration
showing a not wanting to hear what the CIA had to say, or I had
to say. I did not feel that way as of early January, 1995, about Rus-
sian organized crime.

But Fritz was in the agency longer than I. I have known him a
long time and value his judgments and views very highly. I would
certainly not dispute his judgments about what things looked like
during the entire time he was there.

Mr. Ermarth. I would only add that while there were problems,
and I described them in that article and tried to summarize, I
think it is very important for people like the Members of this com-
mittee and other committees to understand that intelligence prob-
lems attending to all of this — and it had less to do, by the way, of
organized crime where there were no political pressures than the
high end, the authorized crime, the big shots who were corrupt and
the notion that maybe these reforms were not all they were
cranked up to be. That our leadership did have a problem with.

But this was secondary because, like I said earlier, the facts and
very sophisticated interpretations of what was going on in Russia,
the truth was amply in the public domain, in the Russian press,
in Western analysis. In fact, I would say that after 1996 when he
founded this little news service, David Johnson called — his product
is Johnson's Russia List. If you are interested in Russia and you
are prepared to spend half-an-hour a day and only read English,
you have absolutely no excuse, from 1996, to be in the dark about
any of this.

Mr. WooLSEY. Mr. Chairman, could I add one more point? It is
important to get the sequence of events straight here.

The privatization of the program with the vouchers was taking
place, I think, for instance, in 1994. So that did result in a number

of institutions and old-line Communist managers of factories and
the like being able to buy up people's vouchers very cheaply and
to get control of things. That was understood and reported very
clearly.

The now highly discredited loans-for-shares program, which Mr.
Chubais operated, was really after that. I think it took place in
1995 or 1996. That probably began the time in which you began
to see, at least from my reading of the press during the time after
I left the Government, strong suspicions of involvement of very
high-level people in what would be in this country corrupt behavior
and was morally corrupt in Russia, even if it perhaps didn't violate
the laws that were on the books.

So there is a time sequence here. I would say 1995-1996 was
probably the period in which — again, from my reading of the
press — it looks as if people's attention started to turn to high-level
corruption and may well coincide with some of the reactions that
Fritz is describing.

Mr. Ryan. Any others wish to comment on that?

Mr. Brovkin. I would just say, in addition to what has been said,
is that Secretary Summers referred this morning about a too fast
or too slow approach. The fact is, it is not a matter of too slow or
too fast, but differently.

What we have just heard is exactly the process. They first vouch
organizations, they then fake elections, and then the rise of the
oligarchs who finance the ultimate selection campaign. Then the
reports that some violations may have been committed during the
elections campaign. The United States Administration looks the
other way. Then there are more and more examples, both from the
political and economics sphere, that the Administration looks the
other way. As a result, things get bigger.

If companies make more and more money on GTOs, you look at
the progress of the banks. It is public information on the Internet.
You look from year to year after year how the twelve major Rus-
sian banks were expanding at the time when the economy was col-
lapsing. That is amazing, that is an absolute miracle that Russian
banks were expanding in 1996, 1997, 1998. How could they pos-
sibly be making so much money when the economy was shrinking?
That is the question that needs to be answered by this committee.

Mr. Ryan. Very insightful, thank you.

Thank you, Mr. Chairman.

Chairman Leach. Mrs. Jones.

Mrs. Jones. Thank you, Mr. Chairman.

Would you pronounce your name for me, sir, in the burgundy
jacket, please?

Mr. Brovkin. Professor Brovkin.

Mrs. Jones. Let's continue that. How could they grow? How
could those banks grow when the economy was falling apart? Spec-
ulate for me.

Mr. Brovkin. Primarily due to the high-interest GTO market.
GTO stands for government short-term obligation. It is a domestic
debt. So the way it was functioning was that the Russian govern-
ment had a deficit in the budget. They couldn't pay the wages.
They couldn't pay the pensioners. They couldn't pay their soldiers.
The reason they couldn't pay that was nothing was working.

So the correct approach, not the one we had this morning, would
have been to start by getting Russian people to work. Even if it is
not profitable, get them to work. Get small businesses going. I call
it in one of my articles the same approach that was taken in Ger-
many in 1946. You don't start with privatizing the banks. You start
with getting local bakeries and local businesses going and making
sure that the local mafia does not control them, that there is law
enforcement, that there is observance at least of the Soviet laws.

None of that was done. Instead, the Administration encouraged
Mr. Chubais and others to create the securities markets. How can
there be a securities market when there is no industry?

Mrs. Jones. Thank you. Let me ask another question. Thank
you.

Now, this is, from your perspective, not being a part of the Ad-
ministration; is that correct?

Mr. Brovkin. That is correct.

Mrs. Jones. And not knowing all that the Administration knew;
is that correct?

Mr. Brovkin. That is correct.

Mrs. Jones. So you sit here on this panel, based on your experi-
ence outside of a responsibility as administrator of a Government
like the United States. And you are not alleging in your statement
any wrongdoing, criminal wrongdoing on the part of the Adminis-
tration based on this situation, correct?

Mr. Brovkin. No.

Mrs. Jones. Thank you. I want to ask someone else another
question. Thank you very much.

It is kind of hard when you are a less senior person on the com-
mittee, you get way in the corner over here.

Mr. Ermarth, I want to ask you a question. Thanks.

You were saying there was a shift and a deep analysis, and that
shift and deep analysis arose, am I correct, as a result of a lack
of enough people or staffing to be able to do a deep analysis? Is
that what you said?

Mr. Ermarth. No, ma'am. That is not the only cause.

Mrs. Jones. But you did say that earlier?

Mr. Ermarth. It appeared in this article, '*Why Did We Under-
achieve Out at the CIA?" I wrote a little article about that. That
was one of the factors.

Mrs. Jones. So was it a minor or major factor?

Mr. Ermarth. This lack of deep analysis? It was a major factor
in our

Mrs. Jones. It was a lack of deep analysis that arose as a result
of a lack of staff.

Mr. Ermarth. That was part of it. Also, it got unfashionable.

Mrs. Jones. Now, when you say "unfashionable," would you be
a little more clear with that for me, please?

Mr. Ermarth. The management of the agency in which I was a
part for a good many years found, particularly in the 1980's, that
a lot of our old products, big heavy analyses of what the Russian
military forces, the Soviet military forces, they did not help the cus-
tomer very much, the policymaker very much. He wanted more
operational near term: What do I do tomorrow? How do I han-
dle

Mrs. Jones. When you say "he", would you be more clear on who
"he" is?

Mr. Ermarth. The customer for intelligence throughout the Ex-
ecutive Branch.

Mr. Ryan. If the gentlewoman would yield.

Mrs. Jones. I don't know if I want to, but I will.

Mr. Ryan. Thank you, Stephanie.

I just wanted to — because I brought this up with Mr. Ermarth's
quote — I just want to read you a quote and see if you still agree.

Mrs. Jones. Why don't you let me finish and then can you deal
with that? Go ahead.

Mr. Ermarth. So there was an effort made to encourage analysts
in all areas, Latin America, Africa, Middle East and Russia, to
write things that are more current, that have a more immediate
relevance to what the policymakers are doing.

OK, please the customer. So the business got more retail, if you
will, to the point where sometimes we began to say, '*Well, we are
just Kentucky-fried intelligence." Where is the depth? There was a
sacrifice there, because it takes a lot of deep investment to, for ex-
ample, meet military intelligence requirements, make sure your
maps are up to date, for example.

Mrs. Jones. But as a policjonaker, you are an analyst. As a pol-
icjrmaker, sometimes you have to make that decision, where are
you going to put the most, the best of your troops, right?

Mr. Ermarth. That is right.

Mrs. Jones. Sometimes you make the decision based on all that
is in front of you at that juncture. As an analyst, not being the pol-
icjmiaker, you could not necessarily say that that was a bad deci-
sion to be made based on all of that you had in front of you in light
of the fact that you didn't know everjrthing? Yes or no?

Mr. Ermarth. No. The analysts usually know more than the pol-
icymakers.

Mrs. Jones. That is because you are an analyst.

Mr. Ermarth. I have been both.

Mrs. Jones. Based on what we are talking about, it was your
opinion after the analysis that you knew more than the policy-
makers and that is why you make the statements that you made
today.

Mr. Ermarth. Yes.

Mrs. Jones. OK. I am done.

Mr. Ryan. I just wanted to clear this up, because it is a very
worthwhile point. I think it goes beyond whether there were staff-
ing cutbacks or something like that, the shift in intelligence. I just
wanted to read one of your quotes and see if you could just confirm
this.

That, "deep analysis — intelligence reports with regard to Russia
deteriorated from deep analysis toward an agenda," where you de-
scribed, "supportive of daily business, our policymakers did not
want, and our intelligence analysts had little incentive to provide,
a big picture of long-term assessment of Russian realities. They
mainly wanted to get to the next Chernomyrdin meeting or the
next quarrel about Russian missile dealings with Iran."

It sounds as if there was a shift in attitude for what you were
sending them. Is that correct?

Do you still agree with these quotes?

Mr. Ermarth. I agree with them, but I would not say it is a shift
in attitude. If you will, it is a shift in business style. It had con-
sequences, and they were costly.

And, by the way, management at the agency has recognized that
and tried to counteract that within the resource constraints that
they have. You can't have current intelligence that is meaningful
unless you do deep analysis to back it up. That applies to very
mundane things like maps and order of battle and economic data.

Mr. Ryan. Very fair point.

Mr. WOOLSEY. I have one sentence on this, if I may.

That tension existed — exists all the time. I agree with the con-
cerns that Fritz expressed about the direction and the pressure.
But in 1993, 1994, we felt that the work that we were doing on
Russian organized crime was precisely a good example of the in-
depth, long-term analysis. This was a very fine piece of work by
young analysts out of the agency that I took around to very senior
people in the U.S. Government and in other governments, because
it was so thorough and in-depth.

So it is not a simple picture, but I don't dispute what Fritz said
about what happened in 1995 and 1996.

Chairman Leach. Thank you.

Mr. Lazio.

Mr. Lazio. Thank you, Mr. Chairman.

I think that we are left with a fairly sobering picture here of a
strategic relationship, a bilateral, strategic relationship that has
largely deteriorated since 1993, no progress really in terms of arms
control, divestment estimates from $100 billion to $150 billion to
maybe twice that amount in terms of net numbers. You have a po-
litical leap in Russia that seems to seek to undermine American in-
terests, and then you have, as Professor Brovkin has noted, popu-
lar sentiment turning against America as the so-called reforms
have had sort of a perverse impact on the quality of life and pur-
chasing power for people.

I want to get back to sort of these turning points, because it
seems as though around this 1993 point that we began this down-
ward spiral, and it coincides to some extent — I would like to hear
from the panelists — with the Chubais loans-for-shares program,
and the relationship between the Treasury Department, the Ad-
ministration, the Harvard Institute, and this privatization issue,
how we went about it, b3T5assing public bidding proposals. And it
seems as though the net result was a concentration of great wealth
in the hands of the few, a sort of economic oligarchy.

I want to begin with Professor Brovkin, if he could respond to
that assessment and whether he agrees with that or not and re-
spond to it and any of the other panelists that would like to add
in.

Mr. Brovkin. Yes, I do agree with what you just said.

I should add that in the next issue of the journal
Demokratizatsiya we are running — and we are showing the edi-
tors— we are running an article by Janine Wedel exactly on this
subject, on the kind of nexus political between the Chubais clan,
as she calls it, and several people in Washington, and the way they
have shaped U.S. policy to Russia and designed the privatization

program which in many ways — it is not only her opinion, but mine
and many, many other people believe set in motion the process of
crooked privatization, the rise of the oligarchs, the rise of the orga-
nized crime and, of course, money laundering.

So, in many ways, the crucial decisions were indeed made in
1994, 1995, and the loans-for-shares scandal was the first actual
scandal. It was the first time it became apparent that something
terribly wrong was happening.

I do believe and I do support the view that a large share of the
responsibility lies with those on this side who either didn't under-
stand— I grant them the benefit of the doubt. They just made a
mistake or they knew that something was happening and they just
looked the other way or, even worse, benefited from the kind of
processes that went further.

Mr. Lazio. Anybody else want to respond?

Mr. WpOLSEY. I will add. Congressman Lazio, I do think the
loans-for-shares program was something of a tipping point. Clearly,
many of the problems that Russia was facing in all of the ways
that we were describing were incipient up until that point. But the
extraordinary buy-off of the companies for very small amounts of
money and the aggrandizement of some of these individuals
through that loans-for-shares program was the point at which I
think it all sort of came together, and it has been downhill ever
since.

If there is no single event, there is no single thing that was abso-
lutely decisive. But if you are looking for a point in which I think
everybody who was watching this either said or should have said,
this is all starting to go really bad now, it would have been

Mr. Lazio. Sort of a national pilfering.

Could you comment on the Harvard Management Company's
participation in that?

Mr. WOOLSEY. That all occurred after I left Government. I just
read the newspapers on that. I don't really have any substantial
views on that.

Mr. Lazio. That raises some fairly extraordinary questions in
terms of insider dealings and who was profiting from this.

Let me ask you, if I can. Director, about Louchansky and his re-
lationship with the DNC. And if there were Republicans involved,
I would like to hear about that as well.

Mr. WoOLSEY. The only thing that I can think that I can say
publicly about this — and just about all I remember from this as-
sessment of several years ago — is the sequence of events I believe
was that Mr. Louchansky was invited to a fund-raiser in New York
by an American citizen. He apparently had his picture taken with
President Clinton. That picture appeared in a Russian publication.
When we first saw it, we thought it was a forgery. But it turned
out it was not.

Mr. Lazio. There is much that we find out that we think is unbe-
lievable.

Mr. WoOLSEY. Lots of people get their hands shaken at fund-
raisers and apparently his was.

Then a couple of years later, even though there had been a good
deal of attention paid to Mr. Louchansky at the top levels of the
Government as a result of our reports, he was apparently invited

by the DNC to another fund-raiser in his own right, and then the
State Department did not give him a visa. Somehow it had filtered
through the system. I don't know exactly what happened. That was
aifter I left the Government, but those are the bare facts as I be-
lieve them to be the case based on public reports and what we
knew at the time. More than that, what money went from anyone
to anyone, if any money went from anyone to anyone, I don't know.

Mr. Lazio. Does anybody have any information on this?

Mr. Ermarth. If you are interested in Mr. Louchansky, includ-
ing, by the way, his denials of any wrongdoing, any organized
crime, any smuggling, money laundering, just get one of your staff-
ers to do a search on the Web and you will get more than you ever
want to read about Mr. Louchansky.

Mr. Lazio. Thank you, Mr. Chairman.

Chairman Leach. Mr. LaFalce.

Mr. LaFalce. I really can't address the specifics of any particu-
lar fund-raiser or any particular photo. It is just interesting to note
that I have received invitations to fund-raisers for Governor Bush,
Senator Dole. Somehow I got on some list. I can't begin to count
the number of people that I have had my pictures taken with, with
a handshake, and I am unaware of who they are. I just wanted to
point that out. This is a fact of life, and the more prominent you
become the more frequently this happens.

Mr. Woolsey, when did you leave the CIA?

Mr. Woolsey. The second week of January of 1995.

Mr. LaFalce. So you were there until January of 1995.

Mr. Ermarth, when did you leave the CIA?

Mr. Ermarth. I retired on October 1, 1998.

Mr. LaFalce. OK. Now, in my prior life when I was Chairman
of the Small Business Committee, I did a lot of things. For exam-
ple, when I went to some of the Central European countries in Jan-
uary of 1990, I came back and we created legislatively the Central
European Small Business Commission. The whole purpose of that
was to develop a small business sector in those formerly centrally
planned economies.

I think it was very successful for the funding that we were able
to achieve. Unfortunately, 0MB came in and said we were just
going to have to eliminate that. That was very unfortunate, be-
cause I saw the importance of it.

I also saw what I thought was the most important phenomenon
in the world at that time and that was the phenomenon of privat-
ization and that we were in this critical juncture in the world
where we would either do it right or do it wrong and we would
have far reaching consequences on account of that. So I had hear-
ings in my Small Business Committee, a number of them in early
1994.

I said it would be terrible if we measured the success of the pri-
vatization program by the number of privatizations similar to the
area — savings and loan subsequent to FIREA. We measured the
success of the approach to deal with this problem by the number
of institutions that we closed, which was the worst possible meas-
ure. I said the success of privatization should be measured by the
way in which societal wealth is being distributed and whether or
not we were building up a small or medium-sized sector.

Were there any studies within CIA, any reports within CIA
about the phenomenon of privatization, about the pitfalls of privat-
ization, about the potential of privatization, either in the abstract
or in the concrete? In the concrete more specifically with respect to
Russia, either by the end of 1995 or — in your case, Mr. Woolsey —
or, in your case, Mr. Ermarth, by the end of October of 1998?

Mr. Woolsey. Again, Congressman, I resigned in early January
of 1995.

Mr. LaFalce. That is what I was referring to.

Mr. Woolsey. I recall more than one assessment, critical assess-
ments of the way that the voucher privatization program had been
going and the problems with it. I don't recall a single long study
or detailed study of the sort that I described about the 1993 work
on Russian organized crime.

Mr. LaFalce. The difficulty that I had was I couldn't get any-
body to pay attention to the quality of privatization, and I am talk-
ing about with any international financial institution. I went to
London to talk with the head of the European bank and reconstruc-
tion development about Russia and other programs and whether or
not we were doing it right, and so forth. I was unaware the CIA
really was that concerned at all.

Mr. Woolsey. I recall several items that the voucher program
was not — items that said the voucher program was producing a
much greater concentration of wealth. People's assets were being
bought up very cheaply. It was not being spread around in society,
the ownership shares

Mr. LaFalce. I had testimony in my early 1994 hearings that
privatization was the way for the wealth to be stolen from the
State into the hands of either the patrons or no one was sure. This
was not — and there was article after article. This was not some-
thing that was secret.

Mr. Woolsey. I think that we are starting to see that with re-
spect to those vouchers in 1994 and by early 1995 when I left. And
I think if I can just say, I think your concern about the procedures
and the fairness and the quality is exactly on the mark. One of the
things that has gone badly wrong here is that all of us in different
professions have our blinders. Certainly, my profession of the law
has its. But sometimes economists and financial people assume
that a rule of law is going to apply and all they really need to do
is look at the economics in some theoretical way.

That was, I think, the wrong approach in our attitude toward
Russian privatization. I think that what you suggested about the
quality of the privatization was exactly the approach that people
should have been focussed on.

Mr. LaFalce. That is hindsight. I was wondering if at the time
the CIA was making any reports on this to the Administration, to
anybody else, with a call for action, with a call for remedial policy
and strategy, and so forth?

Mr. Woolsey. Reports to some extent I do recall. The Intel-
ligence Committees would be able to tell you in more detail. I don't
recall a single major detailed study, as I said, of the sort we had
on Russian organized crime. But as far as a call to action, no, we
would not have done that. We would not make a policy rec-
ommendation. We would not have done that.

Mr. LaFalce. Mr. Ermarth.

Mr. Ermarth. I had the same reaction in the early 1990's as you
had, Mr. LaFalce. I don't recall a specific report on privatization,
per se, but there were many reports on how the economic reforms
were going, and they all contained observations, data assertions
about the extent of privatization. Thirty percent of industry

Mr. LaFalce. I was wondering about the utility of the work that
the CIA does, if I could just explain what I mean by that state-
ment.

It is one thing to come up with a fact. It is another thing to come
up with an interpretation of those facts and recommendations
based upon those interpretations. I am just wondering if you saw,
knew what was going on, but you didn't pull it all together and
press the case, make specific recommendations.

Mr. WOOLSEY. Recommendations we would have not done, would
not press the case, would not call for action.

Mr. LaFalce. Was that inappropriate for CIA?

Mr. WooLSEY. I believe so. That was my understanding with
President Clinton, when I took the job, that I would not make pol-
icy recommendations. We resolutely refrained from making policy
recommendations while I was there.

Mr. LaFalce. What about some overall study, exposition of the
nature of the problem?

Mr. Ermarth. I found the same problem you did. The quality of
the privatization was not being assessed and challenged properly.

When they said, "OK, 40 percent are privatized," I would go
around to the analyst and say, "Look, we know that privatization
is a strange thing in Russia. Some state industries act like private
ones." In other words, they are looking for new customers, they are
looking for revenue, they are looking to improve their product.

On the other hand, some privatized ones are acting like state
ones. They are looking for subsidies, they are looking for protection.
Don't you go out and try to tell the difference, the quality of privat-
ization, exactly as you put it, the quality of management and the
broader impact on the economy of that quality.

They said, "No, we haven't got the resources." You have got to
do that almost door-to-door.

Mr. LaFalce. Thank you, Mr. Chairman.

Chairman Leach. Mr. Bentsen.

Mr. Bentsen. Thank you, Mr. Chairman. I apologize first of all
to the witnesses for not being here for your testimony. I had to
take care of some meetings in my office.

I have had a chance to go through some of the testimony, and
I guess what I would ask is while Russia has progressed far less
than any of us would like to have seen, it seems to me that it is
hard to determine what would have been a more appropriate strat-
egy going forward. Mr. Woolsey in his testimony states that if you
are engaged in dealing with Russia at the time, both from Adminis-
tration and IMF policy, at each instance you would probably have
taken the steps. When you stand back you might say why are we
doing this? But the problem — weren't we in a period, one, where
you see the collapse of the Soviet Union; the new Russian federa-
tion under Yeltsin with a government that we don't know whether
or not is going to survive for a day, a week, or a year just from

a force standpoint, let alone an economic standpoint. We don't
know what direction they are going to go in. We have numerous
strategic concerns, not to mention economic concerns. You go from
that period forward to where you are trying to build some stability
in the mid-1990's, and that carries you up to 1998 where you have
a complete collapse, a near complete collapse of the Russian econ-
omy, just as we had seen in other emerging markets, and I would
argue that there is not a lot of difference between the problems
that we have seen in other emerging markets. Even if we could
step back now and in hindsight say we would have done things dif-
ferently, I am not sure that I see or have heard today what we
would have done differently. I don't think anyone here has advo-
cated that we would not have engaged the Russians and I don't
think that the Administration has also explicitly advocated that
yes we know that there is corruption, but that is the only choice
we have. I don't know that I have seen anywhere where the Ad-
ministration has explicitly said that corruption in Russia is accept-
able in order to get to the end. Has anybody been able to document
that?

Mr. WOOLSEY. No, I don't recall hearing an Administration wit-
ness say that, Congressman. I will try to deal with the question,
if you want.

Mr. Bentsen. Sure.

Mr. WoOLSEY. I think it is unfair to look back with 20/20 hind-
sight and engage in complete Monday morning quarterbacking and
say that the Bush Administration in its last year or the Clinton
Administration right at the beginning of the Administration should
have done all of the things that some of us up here now are sug-
gesting would have been good ideas. I don't think that is fair. Pol-
icy-making is an uncertain situation and this was a highly com-
plicated and difficult set of circumstances that both the Bush Ad-
ministration in its last year and the Clinton Administration, when
it came in, met.

I would say this. That by the time of the loans-for-shares pro-
gram in 1995, there should have been, I think, a good deal more
alarm bells going off than appeared to have gone off. And second,
by around the time of 1996-1997, I think that a different approach
somewhat along the line of what Congressman Weldon has sug-
gested should have commended itself to many of the decision-mak-
ers involved. That would not have been a disengagement from Rus-
sia. It would have been far more focused on working with individ-
ual Russians, on monitoring the money and the like. Just a little
over a year ago, the IMF granted over a $22 billion loan to the
Russian government on Mr. Chubais' assurances, and he later said
publicly that he conned — the thrust was that he conned — the U.S.
Government into moving this way. At some point in there, the
1996-1997-1998 timeframe, it seems to me, even as I try to avoid
being hypercritical with 20/20 hindsight, that some different shift
in emphasis in the way we engaged with Russia should have com-
mended itself to people.

Mr. Bentsen. For the record, of the $22 billion the outstanding
IMF debt to Russia is not that high at this point in time. I think
it is in the range of $17 billion and the tranches were stopped over
that period of time and in fact new IMF policy, as has been stated

today, is quite severe in terms of both the type of currency that is
lent and how the funding is done.

Let me ask you this and particularly Mr. Saunders and Mr.
Brovkin.

I am a graduate of American University and so I am glad to see
that you are here today, perhaps not well trained, but nonetheless,
can you tell me of a similar situation in history where you have
had a country that is trying to make the transition the same as
Russia is? It seems to me that you cannot compare Russia with
other former Eastern Bloc nations. There is not the history or the
economic history as you would have, say in Poland, or the Czech
Republic? Is it fairer to state that Russia in many respects went
from almost a near feudal system into its experiment — failed exper-
iment I would add — in Marxism and a centralist planned economy,
and then is thrown into capitalism. Is there a similar situation in
economic history and are there any parallels?

Mr. Saunders. There is no question that the transformation un-
derway now in Russia is historically unprecedented. I would return
to a theme that I was discussing earlier, however, and add that
precisely because it is a historically unprecedented transformation,
it was remarkably arrogant of the United States to believe that we
could go to Russia with a set of very specific policy prescriptions
and recommendations, telling them what the budget deficit should
be or the inflation level should be. In the context of this amazing
transformation, I can't understand how people felt that we knew
enough ourselves in this country to try to give that kind of advice.
So I agree that it was an unprecedented situation, but I would say
that it was all the more reason to be very cautious in our approach.

Mr. Bentsen. Do you not concur — some of my colleagues argue
that the U.S. through the IMF was not requesting a sufficient level
of conditionality in terms of making loans. You argue the reverse,
that the U.S. was trying to impose too much structure?

Mr. Saunders. I think the conditionality should have taken a
different form. In the early 1990's, some people, including former
President Richard Nixon, proposed that assistance to Russia be or-
ganized not through the IMF, but through G-7 precisely to avoid
the problem of the IMF and financial bureaucrats coming up with
these various economic targets and ignoring the broader political
issues in Russia. There definitely should have been very strict con-
ditionality, but it should have been conditionality based on the rule
of law and the development of a legal system that would promote
investment. This could have prevented much of the corruption and
capital flight we now see.

Mr. Bentsen. Do you think that U.S. policy, which is fairly domi-
nant in IMF activities I would argue with respect to Russia — has
been silent with respect to establishing a rule of law or civil justice
system?

Mr. Saunders. Certainly not. But, at the same time, the Admin-
istration has clearly given greater priority to privatization, for ex-
ample, to privatizing 70 percent of enterprises or some other num-
ber, than it has given to getting laws through the Duma. And, be-
cause the Administration and the IMF were pushing President
Yeltsin to implement these economic policies, he was not able to

work with the Duma to get other things. That is where our poUcy
fell apart.

Mr. Brovkin. Your question implies that since Russia had this
unique historic situation, nothing could have been done and only
in retrospect we could speculate what could have been done better.
I want to remind you of a historical fact. In 1991 when communism
collapsed, there was tremendous upsurge in entrepreneurship in
Russia. Farmers were appearing. Small businesses set up. Instead
of supporting the small businesses, and Russia had this experience
in NEP, New Epidemic Policy, and I wrote a book about it, and I
referred to Germany in 1946. Instead of that, there was this focus
on achieving targets of privatization. That was the stated policy.
Instead of supporting privatization, competition, rule of law and
guarantee from local mafias so they don't grow up to become
transnational mafias, none of this was done. Instead, there were
targets on privatization and lectures here in Washington all over
town how privatized Russian economy was, how great the capital
society has been created. This was a wrong approach. Not too fast,
not too slow, wrong approach.

Mr. Bentsen. Thank you.

Chairman Leach. Mr. Weldon.

Mr. Weldon of Pennsylvania. Thank you, Mr. Chairman. I
have two points that I want to make, and thank the witnesses for
their excellent testimony.

First of all here is the problem. If you are a Russian citizen who
for seventy years was dominated by centrally controlled com-
munism, you were looking forward to the day when communism
was thrown off and a democracy would give you the benefits of
what we have in America. That day came and went.

I was in Moscow a year ago in January with the Duma at a con-
ference on the Western nations to find out why more Western in-
vestment wasn't going into Russia, and I had to give the sad statis-
tic, from 1991 until 1997, U.S. businesses invested $10 billion in
the Russian economy. A free democracy, a free market economy.
During that same period of time, U.S. businesses invested $350 bil-
lion in the Chinese economy.

For those that say that our policy should have been based strictly
on dealing with President Yeltsin, because the Duma was domi-
nated by Communists, they have to justify in my mind how they
can go hog wild in dealing with the Chinese Communists, who
never were elected. And these, the Communists in Russia, were
elected in free and fair elections.

Our problem with Russia has been for the past seven years we
have been so preoccupied with the Clinton-Yeltsin relationship that
anything that would disturb that relationship, anything that would
cast a negative impression on our relationship with President
Yeltsin or Russia in fact was denigrated, was denied or basically
was cast aside, and that is not just in IMF funding. I did a floor
speech a year ago where I documented seventeen violations of
international arms control regimes by Russia. How many times did
we impose the required sanctions? Zero. We had the evidence. In
fact, Gordon Eyler had to resign his job. Why, because as the head
of the non-proliferation center for the CIA, he made the mistake of
telling Congress that Koptev's agency was working with the Ira-

nians on the Shahab 3 and the Shahab 4. What was his reward?
Forced out of his position.

Mr. Woolsey left the agency in January 1995 and did an out-
standing job. At the end of that year, the CIA completed an intel-
ligence report that he wasn't a part of, called NI9519, which under-
stated the threat that was being caused by Russia proliferating
technology around the world, and it was the Rumsfeld Commission
two years later that caused the CIA to reverse itself and acknowl-
edge that they made a fundamental mistake, they underestimated
the Russian threat.

When I got that brief in the Intelligence Committee hearing on
the day after it was released, I asked the CIA briefer, David Osias,
"How can you make these conclusions that Russia is no greater a
threat today than it was back in 1991." He said "That is our infor-
mation. If you don't like it, that is the way it goes." Two years later
the CIA reverses itself and says that they made a fundamental
mistake. And yet we based much of our discussions with Russia on
strategic issues on that report.

Or look at the Russian fission program, which is a program run
by the Department of Energy up through the beginning of this Ad-
ministration. That program was ended in 1994. The material was
shredded because it looked to the insecure relationship and the
control of Russian fission material.

My position is that we were so preoccupied with bolstering up
Boris Yeltsin that we didn't want anything to surface in any area
that would undermine Yeltsin. Look at the letter that Bill Gertz re-
vealed for the first time in his book "Betrayal", which just came out
this summer.

For the first time, Mr. Chairman, the memo that Bill Clinton
sent to Boris Yeltsin during the Presidential reelection in Russia,
he is saying, "Don't worry, we will not let anything happen that
undermines your leadership. We won't let anjrthing happen to em-
barrass you." That was sent by our President to Boris Yeltsin the
year that Yeltsin was running for president.

My position, Mr. Chairman, is that this is a pattern that goes far
beyond IMF funding. We didn't want to hear the bad news. That
does not mean that we should withdraw from Russia. I support all
of the Administration's initiatives, but you have to deal from a po-
sition of strength, consistency and candor and when you don't fol-
low those three principles, Russians will not respect you, and I
agree with Mr. Brovkin today, the Russian people don't respect us.
And to be honest if I were sitting in their shoes, I would think the
same thing. Why should I trust America?

You reinforce the corrupt administration. You saw the oligarch
siphoning off this money that was supposed to reform the coal in-
dustry, and you denied when reality was occurring that we knew
things were wrong, and now you want us to believe that you care
about our stability. We have a real problem on our hands.

Mr. Chairman, unlike some of my colleagues I do believe that we
are at fault as a Nation. In fact, five years ago General Alexander
Levitt testified before the Congress twice, and following his testi-
mony, Alexey Yablokov, the leading Russian economist, testified
before Congress twice, and five years ago they told this Congress
that it was corrupt, the leaders were siphoning off money and that

policies had to be changed, and we did nothing about it. That is our
fault.

Chairman Leach. Well, thank you very much, Mr. Weldon.

Let me just conclude by making one comment that is a little
afield, but I think is very important. We have two representatives
of the Central Intelligence Agency of the United States, former rep-
resentatives. In America we sometimes argue that the CIA has
done an inadequate job. We argue that it has been too intrusive or
not intrusive enough. But when you contrast the CIA with the
KGB, the contrast is rather severe. There is something that stands
out today that I think is really important. We take for granted the
fact that the United States intelligence community is basically as
corruptionless and as conflict-of-interest-less of any institutions of
any kind anywhere in the world. And if it were any other cir-
cumstance, this country would be in grave difficulty.

Of all the comparative lessons when we look at Russia today and
we see the infiltration of former KGB into the financial system,
into the economy, and we wonder what is unique about Russia, be-
cause there are other kleptocracies in the world, but one of the
unique aspects of Russia today is: A, that it is so large and extraor-
dinary; and B, it is a backward economy in many ways, but it is
immensely sophisticated in many other ways, for example, intel-
ligence and military hardware.

So the combination of kleptocratic greed, coupled with central-
ized controls and bureaucratic expertise and coercion of a historical
nature is something that the world has never seen before. So we
are looking at a situation that is absolutely novel, as well as a situ-
ation that has precedents in other societies. But the combination
of situations is novel.

So A, I want to thank two particular witnesses for their distin-
guished public service and I would like to thank three others for
distinctive analysis, and thank you for your testimony today and
we will commence with the third panel.

Mr. WOOLSEY. Thank you, Mr. Chairman.

Mr. Ermath. Thank you, Mr. Chairman.

Chairman Leach. Our third and final panel will be composed of
Mr. Yuri Shvets, who is a former KGB agent; Ms. Ann Williamson,
who is an author of a forthcoming book entitled "Contagion: The
Betrayal of Liberty; Russia and the United States in the 1990's";
Mr. Arnaud de Borchgrave, who is currently at the Center for Stra-
tegic and International Studies; and finally, Mr. Richard Palmer,
who is a former CIA station chief

We will begin in the order of introductions and let me just say
I apologize partly on the lateness of the day, but all statements will
be placed in the record and I would like you to do your best to riot
be as lengthy as possibly you might have intended. We will begin
with Mr. Shvets.

STATEMENT OF YURI SHVETS, CONSULTANT, FORMER KGB

AGENT

Mr. Shvets. Thank you, Mr. Chairman and Members of the com-
mittee, for extending an invitation to appear before the distin-
guished committee. This is a unique experience and privilege for
me to appear before a committee of the United States Congress.

Chairman Leach. Excuse me, if I can ask you to bring the micro-
phone a little closer.

Mr. Shvets. From 1980 to 1990, I worked for the KGB intel-
ligence service. Starting from 1988, the KGB intelligence service fo-
cused primarily on following domestic developments in the Soviet
Union. It was also preparing for future market reforms in the So-
viet Union. The number one priority of any KGB officer was to
work on establishing new businesses or penetrating existing busi-
nesses, including the banks. I was a senior analyst, and my respon-
sibility included analyzing the information provided by the field of-
ficers and composing reports to the top leadership of the country.

In September 1990, I resigned from the KGB intelligence service
on political grounds. At that point it was clear to me and to many
of my colleagues that the leadership of the KGB and the Soviet
Communist Party were ruining the country. Later I published my
book about my experience with the agency, which was published by
Simon and Schuster in New York in 1995. The same year I was
granted political asylum in the United States.

Widescale infiltration of the Western financial system by Russian
organized crime started right on the eve of collapse of the Soviet
Union. The main players of the game were high ranking officials
of the Soviet Communist Party, top KGB leadership and top bosses
of the criminal world. They joined forces by the end of the 1980's
on the initiative of the Communist Party, and this unique forma-
tion is called today by the Russian people the Russian mafia. The
primary objective of this brotherhood was to accumulate maximum
personal wealth and build safe havens abroad before Russia plum-
meted into financial chaos. There was little doubt among them that
the collapse was more likely than not in the near future.

The first full-scale money laundering in Russia to the best of my
knowledge is associated with the All-Russia Exchange Bank. It was
established in Moscow on April 24, 1991, but the concept of this op-
eration had been formulated in the mid-1980's. The bank was es-
tablished under the full KGB control and one was under its total
operational control. As a front of the operation, the KGB used a 24-
year-old Russian citizen, Alexander Konanykhine, appointing him
the president of the bank. The full corresponding account of the
All-Russia Exchange Bank was opened in the Central European
International Bank, Bupapest, Hungary, in November 1991. From
November 1991 to May 1992, the bank channeled from Russia hun-
dreds of millions of dollars which are still missing. The total
amount of the theft is not clear yet. High ranking officials of law
enforcement agencies speaking before the closed door in Russian
Duma acknowledged the theft of $300 million. The former presi-
dent of the bank recently publicly acknowledged the theft of $1 bil-
lion. It is remarkable that the money was being taken out of Rus-
sia during the first months of Boris Yeltsin assuming the presi-
dency of independent Russia. The newly appointed democratic gov-
ernment, chaired by Yegor Gaydar, declared that the state reserves
of hard currency were totally depleted and asked the West for hu-
manitarian aid. At the same time humanitarian aid was coming in,
the former KGB was taking hundreds of millions of U.S. dollars out
of Russia. It is even more remarkable that the theft was committed
by the former KGB in 1992, but after this date the Russian mili-

tary prosecutor's office has been going out of its way to cover the
theft up. Several governments and prime ministers and prosecutors
were appointed and dismissed, but miUtary prosecutors kept cover-
ing this crime up.

The Russian government went as far as misinforming the U.S.
Administration on this case. It demonstrates better than any dec-
larations of the Russian officials that the former KGB leadership
is as powerful today as it was in the Soviet Union and is as well
connected at the top Yeltsin regime and that this regime is corrupt.

I would add also that this bank, while executing this money
laundering operation, contributed significantly to the Yeltsin elec-
toral campaign in 1992.

As a result, I am not very much optimistic when the Russian law
enforcement agency pledges to cooperate with the American coun-
terparts on investigating allegations of money laundering in the
Bank of New York or other American financial institutions. When
the All-Russia Exchange Bank completed money laundering oper-
ations, the president, Alexander Konanykhine, moved to the United
States and was granted political asylum in this country. I believe
it was a mistake. I believe granting him political asylum was a
mistake. There are strong indications that Konanykhine was a will-
ing accomplice of the KGB in the operation, in stealing the money
from Russia and laundering the money through Western financial
institutions.

A recent high-ranking delegation of the Russian law enforcement
agency visited the United States and about two days ago they re-
turned back to Moscow. Their position is there are no corroborating
facts of Russian money laundering and the infiltration of Western
financial systems by Russian criminals.

I would respectfully direct attention of the distinguished Mem-
bers of this committee to the All-Russia Exchange Bank case. This
case has it all. Large scale money theft from Russia, money laun-
dering through the international financial system, coverup and de-
ception of a foreign government.

As for the situation being discussed today on what to do next
concerning Russian corruption and money laundering, I believe it
is a complicated issue, but there is a solution, and it may not be
as complicated and as difficult to achieve as it may seem. We have
to realize that the so-called Russian "elite", the people who have
the real money in Russia, have the real power. They keep their
personal savings in the West. They steal in Russia, they transfer
money to the West and this is where they build their safe havens.
They realize that what they are doing right now in Russia sooner
or later may break the country apart, and then they will flee the
country and come over to the West and enjoy their life here.

It is my understanding and it is the understanding of an average
Russian citizen, if the people are totally dependent on the West,
the West has the right to tell them loud and clear that the West
will not tolerate corruption, outrageous corruption and money laun-
dering involving Western financial institutions. I believe that this
message alone sent loud and clear to the Russian elite will make
a big difference. Thank you very much for your attention.

[The prepared statement of Yuri Shvets can be found on page
263 in the appendix.!

Chairman Leach. Well, thank you, Mr. Shvets.
Ms. Williamson.

STATEMENT OF ANNE WILLIAMSON, AUTHOR

Ms. Williamson. Before I begin my testimony, I want to take a
moment to thank you. Chairman Leach, and Ranking Member La-
Falce for the opportunity to share with the House Committee on
Banking some of the things I have learned over eight years of
watching our Russian assistance program unfold. Chairman Leach,
I particularly want to commend your efforts to lead the Congress
on this very timely investigation of the true nature and unhappy
consequences of our Russian policies.

I should just like to add a few words about myself. I am the au-
thor of "Contagion: The Betrayal of Liberty; Russia and the United
States in the 1990's", which will be available to committee Mem-
bers and the American public in time for the Nation's Thanksgiving
holiday.

Chairman Leach. Who is the publisher?

Ms. Williamson. They will find out in November. It is a sur-
prise. Prior to beginning my work on the book, I covered just about
all things Russian for a broad range of publications, including the
Wall Street Journal, the New York Times, Mother Jones, Art and
Antiques, Premiere, Film Comment and Spy Magazine. From the
late 1980's until 1997, I maintained homes in both Moscow and the
United States, and therefore I can say that for much of the last
decade I had the privilege of being a witness to the dramatic his-
tory unfolding in Russia and the pleasure and excitement of shar-
ing with the Russian people their remarkable land, language and
culture, and it is with a profound gratitude to them and a deep re-
spect for that noble, heroic and too-long suffering people that I
speak to you today.

In the matter before us — many billions churning through West-
ern banks, we should look at this as an opportunity, because it
throws open a window on what sort of financial arrangements a
country without property rights, a country without banks, a coun-
try without certainty of contract, a country without an accountable
government or a leadership decent enough to be concerned with the
national interest or its own citizens' well-being looks like. It is not
a very pretty picture, but let there be no mistake, in Russia the
West has truly been the author of our own misery. And there are
two victims to this story: The first, U.S. taxpayers along with other
Western taxpayers, and Russian citizens whose national legacy was
stolen only to be squandered and/or invested in Western real estate
and equities markets.

The failure to understand where communism ended and Russia
began insured that the Clinton Administration's policies toward
Russia would be riddled with error and ultimately ineffective. Two
mistakes are key to understanding what went wrong and why. The
first mistake was the West's perception of the elected Russian
president, Boris Yeltsin; where American triumphalists saw a great
democrat determined to destroy the Communist system for free-
dom's sake, Soviet history will record a usurper. A usurper's first
task is to transform a thin layer of the self-interested rabble into
a constituency. Western assistance, IMF lending and the targeted

division of national assets are what provided Boris Yeltsin the ini-
tial wherewithal to purchase his constituency of ex-Komsomol bank
chiefs, who were given the freedom and the mechanisms to plunder
their own country in tandem with the resurgent and more economi-
cally competent criminal class. The new elite learned everjdhing
about the confiscation of wealth, but nothing about its creation.
Worse yet, this elite thrives in the condition of chaos and eschews
the very stability for which the United States so fervently hopes,
knowing full well as they do that stability will severely hamper
their ability to obtain outrageous profits. Consequently, Yeltsin's
reform government was and is doomed to sustain their parasitic po-
litical base composed of the banking oligarchy.

The second mistake lay in a profound misunderstanding of the
Russian culture and in the Harvard Institute of International De-
velopment's advisers' disregard for the very basis of their own
country's success; property rights. It was a very grave error. Pri-
vate property is not only the most effective instrument of economic
organization, it is also the organizational mechanism of an inde-
pendent civil society. The protection of property, both of individuals
and that of a nation, has justified the existence of and a popu-
lation's acceptance of the modern state and its public levies.

Without private property, Russians will never pay taxes nor will
any other population that I know of in the world. Russian property
rights are tricky. Property has never been distributed, but only
confiscated and awarded on a cyclical basis. For the big players,
property exists as it always has, where there is power. For the
common man, the property right hasn't advanced much beyond cus-
tom, which prevents the taking of any man's shelter, clothes or
tools so long as a continuous usage is demonstrable. An additional
purely Slavic feature of the Russian's concept of property is the
shared belief that each has a claim upon some part of the whole.

The whole is known as the votchina, or the estate, and was held
by all members of a particular clan. This understanding of property
still informs the culture; Westerners bemoan Moscow Mayor Yuri
Lyuzhkov's retention of the system of the residential permit, or
propiska, as an impediment to a more flexible labor force, but this
policy is one of Lyuzhkov's most popular. Moscovites are well satis-
fied with a mayor who polices outsiders as they believe any propri-
etor of such a great estate as Moscow should.

The Russians' failure to accept the Roman concept of private
property has compelled them to suffer the coercive powers of the
state so that at the very least a civil order, if not a civil society,
might be established and sustained. The hackneyed idea that Rus-
sians have some special longing for tyranny is a pernicious myth.
Rather, they share the common human need for predictable event
undergirded by civil and state institutions, and their difficult his-
tory is the result of their struggle to achieve both in the absence
of private property.

We are running short on time and so I will just briefly add that
the real problem with our privatization program was in its concep-
tion. It wasn't a bad idea, a share holding society. In fact it was
rather good, because a share holding society would have addressed
the central flaw in the Russian concept of property, which was that
it was non-transferable. It is a very great shame that the Harvard

Institute of International Development, along with advisers from
the multilateral institutions, thought that they could simply over-
ride this concept and target particular players with the property.
It is a very great mistake to think that all of the injustice began
with loans-for-shares. You simply need to examine closely the pri-
vatization program, voucher privatization, which American citizens
paid for with $325 million. It was a tremendous swindle and the
Russians knew it. They knew it at the time and so did the advisers
in Moscow. I spoke with them in real time. I have many interviews
and quotes from these people, and this is something of a mjdh that
they are attempting to create today by saying that the problems
began with loans-for-shares. It simply isn't true.

Second, the idea of freezing prices in a monopolistic economy is
simply mad. All that happened is that the monopoly producers
raised prices without penalty. In turn, the Russian people were
robbed of their national savings. That is why they had a 2500 per-
cent inflation in 1992. By the time the property auctions began in
1993, the only money available to participate was criminal money
and foreign money. In other words, the money coming into Russia,
that is when it is laundered. It is going out as capital flight. It is
going out as capital flight, because there are no banks, because no
rational person can possibly work within this system.

Today when we hear very much criticism about the national
character and the nature of Russian business, I would remind ev-
eryone in this room if any of us were living in such a society with
so many distortions and disincentives, we would behave in exactly
the same way. There is nothing wrong with the character of the
Russian people, their energy, their resourcefulness, their ability to
produce, but they are extremely hampered by the government and
by the lack of a judicial system and by the West continuing to fund
a criminal government.

Now since the party had the property, no individual Russian
could ever be sure of anything upon which to build wealth. And let
us not forget that the property right is the poor man's ticket into
the game of wealth. The rich have their friends and money. The
poor must rely upon the law. And it was in the absence of property,
and it was access, the opportunity to seek opportunity and favor in
which the Russians began to traffic. This is what colors their be-
havior and culture to this day. The connections achieved in turn
became the most essential tools a human being could grasp, employ
and over time in which he might trade. Where relationships, not
laws, are used to define society's boundaries, attribute must be
paid. Bribery, extortion and subterfuge have been the inevitable re-
sult. And what marks the Russian condition in particular is the
scale of these activities, which is colossal, as is her wealth. Russia
is a negotiated culture, the opposite of what an openly competitive
productive market requires.

There was an alternative in Russia in 1992. A woman by the
name of Larisa Piasheva was appointed privatization chief by Mos-
cow Mayor Popov. She had devised a true free market program, an
actual one based upon the principles of Werner Erhard, his reform
in Germany. Essentially she was going to pursue Lenin's revolu-
tionary dictum of property to the people, factory to the workers in
a rapid and fearless plunge into the market which would have dis-

tributed property widely into Russia's many eager hands. Her pro-
gram did not rely upon Western lending, but instead tailored itself
to maximize direct Western investment with a particular emphasis
on the development and the protection of property rights. After rob-
bing the Russian people of the only capital they had to participate
in the new market, the nation's household savings, America's ad-
visers signed on with the brave young Russian reformers who had
ginned up a development theory of big capitalism based on Karl
Marx's mistaken edict that capitalism requires the accumulation of
capital. The big capitalists would appear instantly, they said, and
a broadly based market economy shortly thereafter. If only the
pocket of preselected members of their own ex-Komsomol circle
were properly stopped. Those who hankered for a public reputation
were to secure the government purchases from which they would
pass state assets to their brethren in the nascent business commu-
nitv happy in the knowledge that they too would be kicked back
a significant cut of the swag. The U.S.-led West accommodated the
reformers' cockeyed theory by designating a rapid and easily ma-
nipulated voucher privatization program that was really only a
transfer of title. Voucher privatizations receipts were compounded
by a grevious insult, unregulated voucher investment funds which
the privatizers encouraged the uncertain Russian citizenry to pa-
tronize. Hundreds and hundreds of investment funds simply
walked with their clients' vouchers, reselling them to dornestic
criminals, red directors, Western investment banks and inter-
national money launderers.

When the eighteen-month long bank voucher privatization that
the bank represented was concluded in July 1994, the program
whose very design left the controlling share-holding of any single
enterprise in the hands of the state, had actually institutionalized
the state as the determinant owner of all that had formerly be-
longed to the people. And that was the rationale for the loans-for-
share program, that they had to break up the state ownership, yet
the voucher privatization is what created it and institutionalized
the state, because according to the Soviet Union constitution, the
nation's assets belonged to all of the people undivided, not to the
state. That was the legal arrangement that our program changed.
Of course we then went on to establish a bond market. That was
an initiative from the Bush Administration. Their yields were im-
probable. They drew all investment to bonds to the support of the
state just as Tsarism and communism had done previously.

Today when the Clinton Administration says that someone had
to keep the Communists at bay, this too is a deceit. There were no
Communists in Russia by late 1991, only nascent investment bank-
ers looking to nail down a stake any which way. Communism had
evaporated by late 1987, a year in which the Russian people were
allowed to hold convertible currency. Overnight the power of money
replaced the power of ideology.

We also protected the banks, we allowed Russia to protect her
banks and opened her producers to competition with the West. It
should have been the other way around. Her industry should have
been protected and banking should have had to suffer the competi-
tion of the West. At any rate after the loans-for-shares program,
the predatory privatization continued. Directors stashed profits

abroad, withheld employees' wages and after cash famine set in,
used those wages, confiscated profits and state subsidies to buy the
workers' shares from them. But until the Russian people decide
how property is to be held and secured, their decision de jure, all
of the destructive economic arrangements and cultural behaviors
crowding Russian history will continue. Wealth will not be created
without private property. Without transferable property legally se-
cure to protect, no Russian will pay taxes. Without revenues, no
Russian government can endure without falling back on what is
every state's fmal reserve, coercion. The best way to understand
Russia, the Russia we must cope with, is through her most common
souvenir, the Matreshka doll, because each doll as you examine it
is trapped within the larger one until finally the largest doll con-
sumes them all. It is a perfect demonstration of Russia's universe.

[The prepared statement of Anne Williamson can be found on
page 275 in the appendix.]

Chairman Leach. Thank you very much.

Mr. de Borchgrave.

STATEMENT OF ARNAUD DE BORCHGRAVE, DIRECTOR, THE
GLOBAL ORGANIZED CRIME PROJECT, THE CENTER FOR
STRATEGIC AND INTERNATIONAL STUDIES

Mr. DE Borchgrave. Thank you, Mr. Chairman, for the oppor-
tunity to assist you in trying to illuminate this critically important
subject. I speak to you today as Director of the Global Organized
Crime Project at the Center for Strategic and International Stud-
ies, which is chaired, as I think you know, by Judge William Web-
ster, the former FBI director and director of central intelligence.
Our project is divided into seven task forces for all matters of
transnational crime. One of them is Russian organized crime,
which is chaired by my Deputy Director behind me, Frank Cilluffo.

We published our first report on Russian Organized Crime and
its Global Implications for U.S. National Security on September 29,
1997. Four days before its release, President Yeltsin told the upper
house of parliament, known as the Federal Council, that "criminal
elements have entered our political arena and are dictating our
laws with the help of corrupt bureaucrats."

The Russian organized crime task force is in the process of com-
pleting a companion report updating the situation since the August
17, 1998 meltdown. The report will be released before the end of
the year. The key findings of the 1997 report are still very relevant
today. They are two years old. A few of them, and I quote: Left un-
checked, Russia is in danger of becoming a criminal syndicalist
state under the control of corrupt government bureaucrats, politi-
cians, businessmen and criminals with which normal relations
would be impossible.

Russian organized crime, ROC, constitutes a direct threat to the
national security interests of the United States by fostering insta-
bility in a nuclear armed major power. Equally ominous is the chal-
lenge to national security and law enforcement posed by the
transnational operations and alliances of ROC groups. Overall,
some 200 large, sophisticated ROC groups are now operating in 58
countries, which is up from 29 countries four years ago according
to the FBI.

The processes of democratization and economic liberalization in
Russia are being seriously undermined by ROC. ROC has extended
its tentacles throughout Russia's economy, which confers an aura
of legitimacy to myriad illicit activities, including the manipulation
of Russia's banking system and financial markets.

In the absence of effective courts, a working judicial system, and
consistent enforcement of established commercial and contract law,
criminal elements have become de facto adjudicators. Protection
rackets in effect have usurped the government's traditional legal
functions and safeguards.

So what was a threat two years ago is a reality today.

The CSIS report on ROC was quickly endorsed by FBI Director
Louis Freeh, but just as quickly dismissed by high ranking Admin-
istration officials, even though the intelligence community was well
aware of the facts, as you have already heard today.

The genesis of the Global Organized Crime Project at CSIS goes
back to 1994, when a wealthy friend of mine with high level con-
tacts in Moscow was called by one of his contacts who said "Could
you please take care of five Russians coming over to New York next
week?" He said "no problem." He quickly discovered that what they
really wanted was an introduction to his banker in Nassau in the
Bahamas, where he also kept a house. Two days later he got a call
from this banker saying, "Do you realize what your Russian friends
wanted?" He said, 'Tes, I assume that they wanted to open a bank
account." He said, "Do you realize for how much?" He said, "Well,
I thought it might be a few million. Why, what is the problem?"

And the Swiss banker said, "The amount was $2.5 billion, which
they wanted to put in untraceable accounts through a variety of
offshore tax havens." Zurich turned down the business.

Three weeks later I was in the south of France on vacation sit-
ting next to another Swiss banker based in Monte Carlo. I re-
counted the anecdote and he said, "What a coincidence, I had a
Russian walk in two days ago with no introductions who wanted
to deposit $400 million through six different countries as well."

1994, as you may recall, Mr. Chairman, was also the year the
late Claire Sterling, a much honored investigative reporter, pub-
lished a book titled "Thieves World," which documented chapter
and verse on the global tentacles of ROC. Ms. Sterling had traveled
the world, including several trips to Russia, to investigate the con-
nections between Russian intelligence and security agencies, orga-
nized crime syndicates and the so-called oligarchs who plundered
Russia systematically under the guise of various privatization
schemes. There was no doubt in Ms. Sterling's mind that this le-
thal mix enjoyed the protection of the powers that be in the Krem-
lin. I also traveled extensively on behalf of CSIS's Global Organized
Crime Project without using any of Ms. Sterling's contacts. We de-
liberately avoided duplication. From Buenos Aires to Berlin, from
London to Lugano, from Bogota to Beirut, the pattern was iden-
tical— countless billions of dollars siphoned out of Russia that were
laundered before buying commercial properties or being used to
pay cash for lavish private residences in Europe's capitals and in
the Mediterranean's luxury resorts, as well as to purchase yachts
and private planes. I personally discovered scores of examples of

properties ranging in price from $5 million to $75 million, paid for
by Russians in cash.

Little known outside the intelligence community is the fact that
the clandestine stripping of Russia's assets began as early as 1985
and 1986 when key members of the Soviet Communist Party's Cen-
tral Committee concluded that President Gorbachev's glasnost and
perestroika policies would lead to the collapse of communism. This
is when these Central Committee members turned to the KGB for
assistance in moving abroad precious metals and stones and liquid
assets. The KGB was the only organization familiar with Western
conduits willing to handle this clandestine traffic.

When the Soviet empire began to implode in 1989, many of these
Communist apparatchiks and their KGB associates became instant
businessmen.

I saw that the red light went on, so don't want to be longer than
I am allowed to be.

Chairman Leach. Mr. de Borchgrave, please continue if you like.
Your statement is excellent.

Mr. DE Borchgrave. I was trying to respect the red light. I'm
sorry.

Russia's much touted instant market economics and democratic
politics were little more than a sham, Mr. Chairman. In 1997 Pros-
ecutor-General Yuri Skuratov ridiculed President Yeltsin's seven
major crackdowns on organized crime and corruption as a
Potemkin Village. "It is a charade", Mr. Skuratov said in an inter-
view. There is neither the will at the top nor the resources to do
much about it. After three years of investigative work, Mr.
Skuratov started prosecuting the first of 780 top officials. Not for
long. Skuratov was framed in a sex scandal by the security services
earlier this year and then suspended by Mr. Yeltsin for poking
around the Kremlin's immensely complicated financial structure.
But the Russian parliament twice declined to endorse the suspen-
sion and Mr. Skuratov continues to speak out in interviews. He
now says that $3.9 billion of the IMF's $4.8 billion loaned last year
never reached Russia, but was sold by the Russian Central Bank
directly to eighteen commercial banks controlled by the oligarchs.

You've heard Jim Woolsey this afternoon quoting former Deputy
Prime Minister and former Interior Minister Anatoly Kulikov. He
was at a ROC task force in Washington a week ago. He estimates
that about half the Russian economy is controlled by shadow sys-
tems that run illegal operations.

Kulikov also estimates the amount of capital flight since 1992 is
close to $300 billion. Some 55 offshore secrecy jurisdictions from
Vanuatu in the Pacific to island nations in the Carribean and a
dozen countries from Bahrain to the Bahamas were eager to take
in Russia's dirty laundry. In 1995 and 1996 about $1 billion a
month came into Cyprus from Russia and another $1 billion a
month went in and out of Israel. The money laundering activities
uncovered recently by the FBI at the Bank of New York are not
unusual. They have been duplicated by scores of banks the world
over. Wealthy individuals have parked an estimated $8 trillion in
offshore tax shelters that guarantee secrecy. There are also ap-
proximately one million corporations anonjonously chartered in
these secrecy jurisdictions that sell naturalization and a new pass-

port for $50,000. Dominica charges $75,000, but that includes pass-
ports for a spouse and two children. This is not to say that this is
the Russian organized crime trillions of dollars winding up in these
places, but the facilities are extraordinary and widely used by tax
dodgers all over the world.

Russians have been very bitter about how what they perceive as
American capitalism made them poor. 40 percent of the population
is now living below the poverty line of $38 a month. Now they are
bitter about being weak and this plays right into the hands of anti-
American ultra nationalists.

The totalitarian temptation, as we know, has existed in Russia
for the past one-thousand years. It is now rearing its ugly head
again after a decade-long taste of gangster capitalism. Last week
Secretary of State Madeleine Albright called on President Yeltsin
to make fighting corruption a top priority. "The problem is real,
and must be taken seriously," said Mrs. Albright. Well, the problem
has been real and glaringly obvious since 1991, and repeated warn-
ings that it was undermining U.S. foreign policy objectives as well
as diverting U.S. financial assistance and IMF loans were repeat-
edly dismissed as exaggerations.

It is hardly surprising, therefore, that Russian nationalists have
convinced themselves that the United States, not content with its
Cold War victory, was also bent on wrecking the Russian economy.

The Administration has invariably invoked the need to give pri-
ority to strategic arms control and economic reforms, rejecting the
notion that the emergence of a criminal state was in direct con-
tradiction with U.S. objectives. General Boris Gromov, Chairman of
the Subcommittee on Arms Control and International Security of
the Duma's Committee on International Affairs, said this week
that the lamentable state of the Russian military was a direct re-
sult of Western indifference to the way the Kremlin robbed the
armed forces of the resources needed to maintain cohesion.
Yeltsin's so-called reforms, General Gromov said, have brought
nothing to the majority of the Russian population but disappoint-
ment.

By way of conclusion, Saul Bellow once said that "a great deal
of intelligence can be invested in ignorance when the need for illu-
sion runs deep." The Administration's need for illusion in its Rus-
sian policies has been an evergreen commodity since the collapse
of the Soviet Union.

So where do we go from here? I think it is essential, Mr. Chair-
man, and very urgent to weave Russia, in close cooperation with
the Duma, into an ever tighter web of mutual interest with the
United States with a view to encouraging transparency, the rule of
law and the emergence of a Russian middle class. A back-to-the-
drawing-board blueprint is provided by Congressman Weldon's
eight-point recommendations that have been partly incorporated in
the 1989 Russian Economic Restoration and Justice Act.

Thank you, Mr. Chairman.

[The prepared statement of Arnaud de Borchgrave can be found
on page 292 in the appendix.]

Chairman Leach. Thank you, Mr. de Borchgrave.

Mr. Palmer.

STATEMENT OF RICHARD L. PALMER, PRESIDENT, CACHET
INTERNATIONAL, INC., FORMER CIA STATION CHIEF

Mr. Palmer. Thank you, Mr. Chairman, and other honored
Members of the committee.

First of all, I am very glad to be here today.

Chairman Leach. Before you commence, could you give us one
second of your background, your employment background.

Mr. Palmer. Very quickly, I spent 5^2 years in the military, first
as an infantry officer in Vietnam, then as an intelligence officer.

I then spent twenty years as a CIA operations officer, eleven
years of that as a senior manager, eighteen years of that time was
overseas.

I have nine years' experience in researching the subject of money
laundering. I finished my career with a posting in the former So-
viet Union. I then remained in the former Soviet Union for an addi-
tional three years, worked with a Russian bank for a while, and
also was a consultant on business and security.

I then returned to the United States, thinking that the research
that I have been able to do during this period on Russian organized
crime would be of great interest, and I must say that before ap-
pearing before this committee today, it has been somewhat dis-
appointing. I am glad to see that someone is finally addressing the
subject.

Mr. Leach. Please proceed.

Mr. Palmer. I now work in asset recovery and due diligence pri-
marily in Russia.

I am particularly glad to be here today, because the BBC Moscow
is carrying a story that I was removed from the witness list be-
cause I was the person who sent Matrokin down the street to the
British. This is the former KGB officer who has recently written a
book with a lot of details. I cannot discuss my CIA employment in
detail, but I can tell you that the first time I ever heard or saw
of Mr. Matrokin was in reading a local newspaper, and my closest
contact to him is that I ordered his book over the Internet.

I also know nothing about Mr. Penkovsky.

This is a subject that presents serious threats to Western nations
as well as involves the use of U.S. taxpayers' funds to continue the
looting of Russia and its former republics. I feel reasonably well
qualified on the subject as a result of my former Government serv-
ice, personal research and professional duties. I devoted much of
my time, energy and money to Central and Eastern Europe and the
former Soviet Union in the last seven years, because I believe that
the collapse of the Soviet system was an historic, revolutionary
event and that the outcome would shape the course of history. Un-
fortunately, we have thus far squandered our opportunity to help
shape the outcome of this event in the positive directions that ben-
efit the majority of the people in this region rather than just a few
persons at the top.

We have little time left to avoid the permanent denigration of the
term democracy in this region and the return of totalitarian re-
gimes which may not necessarily be Communist. This would lead
to instability in a region that spans ten time zones and still re-
mains the second ranking nuclear power.

Several knowledgeable, respected speakers have preceded me
today. Indeed, Mr. Chairman, your article in the September 10th
issue of the New York Times lays out the issues very well. There-
fore, I would still like to preface my comments by noting a few
points I consider givens.

Russia is too important to us and to the world to simply aban-
don. Second, despite the incredible, severe obstacles and forces that
confront them, there are honest and courageous Russian officials,
law enforcement personnel and businessmen. Regrettably that cur-
rently represents a small minority.

Third, most Western bankers and businesspersons have been
more interested in making usurious profits quickly than building
long-term investments. They have also sought to obey neither the
law, the spirit of the U.S. laws, nor the letter of the U.S. laws con-
cerning money laundering in their recordkeeping. Further, U.S.
laws regarding money laundering and the conduct of due diligence
on customers who move large sums of money are inadequate.

We are willing to conduct stings against Mexican banks for
money laundering for drug lords. We conduct classes not only in
the U.S., but in foreign countries, to advise them about the U.S.
laws on money laundering and how this can be avoided. On the
other hand, the U.S. Crovernment has not been particularly aggres-
sive in looking at one of the major sources of laundered funds, Rus-
sia; and second, I have been told by several foreign countries that
they have been, as they put it, "stiff-armed" by the U.S. Govern-
ment when it comes to asking for our help in looking at the prove-
nance of funds. This is something where we give the image that ba-
sically we are going after this for competitive advantage instead of
actually trying to stop the looting of states.

And finally, the U.S. Government continued to seek only good
news about events in Russia, strenuously overlooking even the
most poignant cases of theft and criminal activity at the highest
levels. This is self-defeating and dangerous.

The purpose of my rather long and detailed written testimony is
to document that the looting of the Russian state was part of an
elaborate plan that was created in the mid-1980's. Further, current
political leaders such as Prime Minister Vladimir Putin and Presi-
dent Boris Yeltsin continue this program. Any objective observer
must be swayed by the multitude of published evidence of the cor-
ruption regarding President Yeltsin, his family members, and a cir-
cle of financial supporters.

The three appendices to my testimony are simply a small exam-
ple of the documentation that are publicly available. One of those
in Appendix A shows the documents on Mr. Borodin's Swiss bank
account. Appendix B is a document that shows that Mr. Borodin
bequeathed two apartments to members of the Russian government
illegally. One was to the acting prosecutor who replaced Mr.
Skuratov, and the other is to the chief military prosecutor for Rus-
sia. Apparently this is to ensure that there won't be any prosecu-
tion of the Yeltsin group.

We must move away from the personalization of Russian policy.
We must be able to talk to all sides. Russia is too big for narrow
relationships. We must stop the growing popular perception in Rus-
sia that the U.S. and democracy are simply allies of their own cor-

59-889 00-4

rupt society and government. We must move away from channel-
ling our support solely to the most corrupt elements of the state.
We need to recognize that the most corrupt elements include the
most senior politicians, bankers, businessmen and even law en-
forcement officials of Russia. We must come to grips with the con-
cept that the Russian government is riddled with corruption and
there is no rule of law. To pretend otherwise is a recipe for disas-
ter.

Large amounts of money encourage corruption. Russian orga-
nized crime is unique in that it is willing to spend up to 50 percent
of its profits on corruption, including bribes to officials. That, if left
unchecked, will corrode America's political, economic and legal sys-
tem. Make no mistake about it, the traditional mafia hoodlums
who steal cars, run prostitution rings and collect protection money
comprise only about 10 to 15 percent of Russian organized crime.
Russian officials, politicians, bankers, businessmen, industrial
managers and even some law enforcement officials comprise the
other 85 to 90 percent. Both components work together to subvert
the law. Both engage in typical racketeering activities. Some just
have better educations and dress better than others.

Regarding the amount of money that has been stolen from Rus-
sia, we must also include the cost of the Russian resources such as
oil and copper in these calculations, which were sold at extremely
undervalued prices to Russian organized crime intermediary firms.
One frequently cited example is the fact that in 1990 one package
of Marlboro cigarettes had the same free market cost as one ton of
crude oil, about $3. The only problem was to have the connections
to obtain a permit to obtain and sell the oil abroad.

Current Russian Prime Minister Vladimir Putin provided such
permits as part of his duties when he worked for the former mayor
of St. Petersburg before the latter was forced to flee to France
when charged with wholesale corruption.

Both Interpol and the Russian Ministry of Interior estimated in
1998 that at least $300 billion had been looted from Russia. The
most optimistic estimates say $1 to $2 billion a month were re-
moved, which would put the total between a very optimistic $90
billion and a more reasonable $180 billion. Other, more realistic es-
timates went as high as $500 billion.

While no one knows for sure, consider the fact that Benex ac-
counts allegedly moved up to $10 billion through one series of ac-
counts within one year, and that was certainly only one of these
accounts.

The key point to remember is that the exodus of this money from
Russia is to the West and that it uses the Western banking system
for these movements. Combining Russian organized crime mem-
bers, as well as simply those who do not want to pay taxes, these
billions exit Russia leaving it to the Western countries and the IMF
to make up the difference. In other words, even if money launder-
ing is not considered a crime in Russia or cannot be prosecuted in
the West, we are still helping them avoid paying taxes. The dif-
ference is made up by our taxpayers in loans that will never be
paid back. This means that what is considered good business for
Western banks is forcing Western, particularly U.S. taxpayers, to
continue to subsidize corrupt regimes and Russian organized crime.

The phenomenon of large-scale looting or kleptocracy is not and
will not be restricted to Russia. We can expect that other autocratic
states who encounter similar problems as they attempt to transi-
tion to free market society — Cuba, Vietnam, North Korea and even
China — have already begun to register striking growth in orga-
nized crime groups, all with ties to the top of their governments.
However, this model will also provide a preview of problems to
come in countries such as Mexico when they begin to decentralize
and privatize their resources.

How to solve these problems? We have to come up with a foreign
policy that is bipartisan and has long-term goals. We have to de-
cide what is manageable in Russia. Certainly, we cannot walk
away; we must work with them. But we must also tie our aid not
to one government, not to a group of politicians on either side, but
to cooperation between the governments. We also have to tie our
aid to discernible, measurable goals. That means before we allow
more investment, we should have a Russian-U.S. investment treaty
to protect American investors.

The European Union was successful on this. Why not us? How
can we encourage U.S. investors to invest when we don't even have
a treaty to protect their rights?

Second, we must make due diligence a requirement at several
levels of our dealings with Russia in its former republics. The argu-
ment that effective due diligence is not possible in Russia is spe-
cious. It is being done every day and not just in a perfunctory man-
ner. For example, USAID and assistance programs to businesses
should include a mandatory section that confirms that this busi-
ness and its principals have been investigated and found to have
no ties to Russian organized crime. These investigations should be
overseen and conducted by U.S. or Western firms which can be dis-
ciplined if they are found to be negligent or fraudulent in their
work. Official Russian assurances or investigation by security firms
with ties to Russian organized crime which comprise the majority
cannot be taken seriously.

Effective due diligence will encourage that honest firms stay that
way. It will reduce cash flows to corrupt or Russian-organized con-
trolled firms. It will give honest businesspersons some incentive to
either stay that way or become that way. This isn't pie in the sky.
It won't happen overnight, but we have to take a long view.

Western banks must insist on knowing the provenance of the
money that they accept. Accepting billions of dollars from firms
that don't exist or consist of a small office, telephone and computer
are not acceptable. There should be strong penalties for failure to
exercise due diligence by any Western bank, particularly in the
U.S., because it is the largest banking system in the world.

And finally, banks must be held responsible for the actions of
their employees. It strains credulity to listen to explanations that
"we didn't notice that the billions of dollars were flowing through
a bank, because of the actions of one or two corrupt employees."

Finally, think of the impression we make on other countries
when many of our banks that we use here in the Washington area,
for example, have the letters N.A. after the name. It means they
are based in the Dutch Antilles to minimize taxes and maximize
profits, or I recently read that the State of Colorado has passed a

law providing for offshore companies for foreigners. Apparently
they want to join the ranks of Delaware and similar States that
want to attract deposits by foreigners maintaining shell companies
in the United States. At what cost?

I am hoping that this committee will be able to follow through
on their plans to introduce new legislation.

I want to thank you for your time, sir.

[The prepared statement of Richard L. Palmer can be found on
page 306 in the appendix.]

Chairman Leach. Thank you, Mr. Palmer.

Let me just begin, because you have something unique to the
panel, in fact, unique virtually to any American, and that is, you
have worked in a Russian bank. The impression that I have is that
most Russian banks aren't deserving of the term of art "bank"; that
is, that they aren't deposit-taking institutions that revolve funds to
make loans to a community, that they are more simply money
laundering platforms or places where government funds come in
and high levels are siphoned off by commanders of the banks.

Now, is that a valid observation or is that a false image?

Mr. Palmer. I would say that that, based on my experience and
my research, is at least 85 to 90 percent correct, sir.

Chairman Leach. The reason I want to press you a little bit on
this, let us say you are an American bank, and a Russian bank
comes and says, "We want to do business with you."

It would be inconceivable, if you are a thoughtful, reasonable
American bank, that you would not know that that bank is not a
traditional bank, that there is, by definition, a potential problem.
Is that valid or not?

Mr. Palmer. That is certainly my view, sir. The bank that I
worked with, as many of them did, went bankrupt. It was a Rus-
sian-owned bank in Latvia, and one of the largest American
brokerages deposited several million dollars with that bank one
week before it went bankrupt.

Chairman Leach. For what reason?

Mr. Palmer. Well, that is a question many people asked after-
wards, because it was in the newspapers that the bank was in dif-
ficulty. The audit papers from one of the big six audit firms said
that the bank was quite solid, but most people don't put much trust
in that. But what I am sajdng is you could ask a taxi driver and
learn that people were concerned about the bank.

Frankly, the thing that I have seen most often in American com-
panies and firms that have been defrauded, from Russia, is that
normally the Russian groups, or Eastern European groups in some
cases, find someone in the American corporation that they can
work with.

Chairman Leach. I am going to get to that in just one second.

First, I want to ask a very specific question. One of the financial
institutions that has come under a great deal of attention is one
called Menatep, and I know Ms. Williamson is familiar with it. Is
there anyone on this panel that doesn't almost instantly under-
stand that this is an institution of doubtful integrity?

How would you describe it, Mr. Shvets?

Mr. Shvets. Yes, Mr. Chairman, Menatep was one of the largest
Russian banks, the most heavily penetrated by the KGB, starting

with the former KGB Chairman, Ivanenko. There were different
factions within the KGB before the collapse of the Soviet Union,
after collapse of the Soviet Union. So Menatep apparently worked
more closer with the faction of the KGB which supported Boris
Yeltsin in his fight against so-called "Gigashipa" in August 1991,
and it basically fits the pattern of the KGB-penetrated financial in-
stitution.

Besides

Chairman Leach. Finish your sentence, please.

Mr. Shvets. This bank particularly, specifically was involved in,
let us say, the American leg of the all-Russian exchange bank oper-
ation where the Russian exchange bank former President, together
as a representative — actually he was then vice president of
Menatep Bank — came to this country to work on establishment of
a bank with initial capitalization of $1.7 billion, and this mission
was financed by Bank Menatep.

Chairman Leach. Do you have any comments on Menatep, Ms.
Williamson?

Ms. Williamson. Well, it was known as a gangster bank in Mos-
cow. And one thing about the KGB involvement, though, is that the
CPSU banked at the Vnesheconomobank, which in the trade is
known as V-Bank; and account number one belonged to CPSU, and
it was actually KGB that handled the money transfers and so forth
for the Communist Party under the Soviet Union. So their moving
into Menatep was also a certain capturing of professionalism. But
I do know that Income Bank employees used to complain vocifer-
ously, because they said there is no end to the money Menatep can
get; they constantly were refilled, they told me.

Chairman Leach. Yes, I know.

Mr. DE Borchgrave. Mr. Chairman, just to show you how the
old conduits continued to be useful to latter day Russia, you have
read about the FIMACO in the Island of Jersey, where the Russian
Central Bank transferred several billion dollars. That particular
ofi'shore bank in Jersey belongs to the now-called European Union
Bank in Paris, which used to be the Banc Commerciale de Neu in
Paris, which was used to move funds from the Soviet Union to the
French Communist Party.

Chairman Leach. One final question, and I turn to other ques-
tioners, particularly Mr. Palmer and Mr. Shvets, but the other two
panelists may have knowledge, too: Do you believe that Russian or-
ganized crime and/or KGB has infiltrated personnel in aspects of
the American financial system?

Mr. Palmer. I would say absolutely.

Chairman Leach. And can you give examples, if not of named in-
stitutions, of kinds of personnel? Do you mean in like management,
in computers? How do you mean?

Mr. Palmer. The British Service has published something in
their newspapers about two years ago that they had found, "plants
from the KGB, or moles," who were involved in providing informa-
tion on currency exchange rates and bank operations.

Chairman Leach. Are these in Moscow, London, New York?

Mr. Palmer. These are Russians who were brought into the
banks, but these are also British citizens who are then hired by,
now, the SVR to provide banking information. That this happens

is absolutely true. Banking and financial information is now one of
the highest priorities of the SVR. The British have found some of
these people, they publicized it.

In the United States — I have been out of the Government since
1994, so I can't speak for the U.S. Government — but it seems to me
it begs logic to think that they would avoid the largest banking sys-
tem in the world.

I would also say, when you look at this case we are looking at
in New York, you have a woman who was a teller in a bank, OK,
first of all; and she met an American — and I know nothing about
the case and I am not disparaging her, but in 1976 you didn't meet
Americans on the street, strike up a long relationship with them
and get them an exit permit to leave married. Mr. Shvets can
speak to that.

But someone goes out to the West and is recontacted perhaps.
Suddenly they are moved from being a teller to a vice president of
a bank to going to an offshore banking haven for Russia — Riga. In
Latvia, the second largest industry is money laundering — and giv-
ing a class on money laundering. I would think in any bank the
alarms would go off on that. What I am saying is these things must
be happening.

I can say this: Following my retirement, I still met a lot of people
from the KGB who were quite willing to come up and tell me where
they used to work, about their backgrounds, and they would tell me
one of the first things they did was contact the agent they had sent
to North America and Western Europe when they were spies and
now recontacted them for business. That doesn't mean that these
are necessarily on behalf of the KGB, now the SVR, but it can
mean that this group that stole the money, that controls the
money, has contacted people they used to work with, and now they
have economic relations with them as well.

Chairman Leach. Mr. Shvets, do you want to comment on this?

Mr. Shvets. Mr. Chairman, as far as to my knowledge

Chairman Leach. This is an interesting contrast, a former CIA
agent and a former KGB agent.

Mr. Shvets. We have been knowing each other for quite a while.

Chairman Leach. I am not going to get into your background,
please.

Mr. DE BORCHGRAVE. Neither side could have fought me, Mr.
Chairman.

Mr. Shvets. Basically, minutes after collapse of the Soviet
Union, the KGB made an attempt to directly penetrate the Amer-
ican banking system by establishing a KGB-controlled bank in the
United States, and they sent their human asset, so-called human
asset, to Washington, DC, and he was trying to negotiate the con-
ditions for opening the bank here. Eventually, he was told that
there would be no Russian bank on American soil in the foresee-
able future. So this attempt was stopped.

However, for some time, I was following very interesting develop-
ments in the policy of the Russian embassy toward the Russian
citizens living in the United States. The problem now that such
countries as China, Israel have citizens in large quantities living
in other countries, and the KGB perfectly knew that Chinese intel-
ligence was working very closely with Chinese citizens living in

other countries, specifically in the United States, because, as Chi-
nese, they were considered potential assets of the intelligence serv-
ice.

The same was known about Mossad, Israel intelligence, and
about a year ago the Russian embassy introduced special proce-
dures for officially renewing foreign passports for Russian citizens
living in the United States, and in order to renew this passport,
each applicant should fill out the form which for me, as a former
KGB agent, reminds me very much of the 1970's when the commit-
tee had files on all formal Russian citizens. In this document and
this application, what is important again for me from a profes-
sional point of view, is that a Russian citizen living here as an
American resident needs to show where they work, their employ-
ment, their telephone numbers and their street address.

Chairman Leach. As well as their family in Russia.

Mr. Shvets. And the whereabouts of their family in Russia.

So it was my experience, I take it for granted this information
will be used by the KGB for operational needs. They can approach,
first, this Russian in the United States who has an offer or de-
mand, and they can put pressure on him or on her through their
relatives living in Russia; and lots of Russians living here as resi-
dents, they were so scared by this new form that they decided not
to fill it out even though they couldn't return to Russia to see their
relatives anymore.

Chairman Leach. Thank you,

Mr. Bentsen.

Mr. Bentsen. Thank you, Mr. Chairman.

Let me just follow up on the Chairman, Mr. Shvets. I have to ask
you, did you ever imagine in your wildest dreams that you would
be testifying before the U.S. House of Representatives Banking
Committee as a former KGB agent?

Mr. Shvets. It was absolutely incredible. I had a tour of duty in
Washington, DC, in the mid-1980's, and I did visit the United
States Congress when I worked here under cover as a Tass cor-
respondent, but I never imagined that some day I would be testify-
ing here before a committee of the U.S. Congress.

Mr. Bentsen. This is an extraordinary time for ever3^hing that
has gone on.

Ms. Williamson, I haven't read any of your stuff and I want to
apologize that there are not many of us here. I think they are all
the Members who ever had a subscription to Spy Magazine who are
left here today, but are you — in your testimony, are you asserting
that perhaps the United States backed the wrong force in Yeltsin
and, in fact, we should have walked away from Yeltsin some time
ago?

Ms. Williamson. Well, yes. I think we certainly got far too close
to him as a personal relationship and put too many hopes on this
man.

You know, in 1991, we went along with the idea that what was
triumphing was democracy, but in fact what was happening was
that Boris Yeltsin had chosen to seize power and the obstacle in
his way was a man named Mikhail Gorbachev and an entity, the
U.S.S.R.; and a group of them decided, we are in the U.S.S.R. and
will take power and take assets of the U.S.S.R. So there was this

100

misunderstanding of the two sides, though the Russians, particu-
larly Mr. Yeltsin, were very clever at leading this notion along
amongst Western participants in this drama.

Mr. Bentsen. So you are asserting that while there was an at-
tempted coup d'etat with respect to Mikhail Gorbachev and then
Yeltsin and his backers seized the parliamentary building, that
that was really subterfuge, that this was all a coup d'etat, nonethe-
less, that was a transfer of power to oust Gorbachev; and whether
it was the military or the old Communist regime, that Yeltsin was
one and the same.

Ms. Williamson. No, no.

Mr. Bentsen. Or were there two coups d'etat going on simulta-
neously?

Ms. Williamson. It is my understanding Yeltsin was aware of
the intent, that there would be an attempt against Gorbachev and
the participants, but there are so many strange things about those
days. I am still not entirely convinced whether Mr. Gorbachev
knew about it or not. Why wasn't Mr. Yeltsin arrested that morn-
ing?

Just lots of anomalies in this story, but I don't necessarily believe
at all that Mr. Yeltsin was part of that, but he exploited the situa-
tion brilliantly; and then after Mr. Gorbachev's return from Four
Oaks and the new day dawned, they moved very quickly to get him
completely out of the way, and part of what led to that momentum
was. Westerners flooded into Moscow and actors who really wanted
to move this forward from Harvard University became involved,
and they worked with the media to create this image and to move
the situation along. And that is a separate effort, I am saying, from
what occurred in August of 1991.

Mr. Bentsen. I don't know about Harvard, but let me ask, but
then you had subsequent elections in Russia, this newly constituted
Russian Federation, and you had elections, you had the Presi-
dential election, you had the Duma election, you have effectively a
split government, I guess, now with the Communist-controlled
Duma versus Yeltsin's being in the opposition, or vice versa.

Those elections, you felt — were those substantial elections, were
those rigged elections, or — your observation. And is Russia a demo-
cratic country today? Would it be a democratic country?

Ms. Williamson. I do not believe the constitution of the Russian
Federation passed the qualifications to be truly accepted by the
electorate. There was not a majority of the electorate that passed
it. The elections are dubious.

But, yes, they do have elections. And I will tell you, sir, that the
Russian people vote in great numbers. I have witnessed them.
They are a population that likes to vote, that likes to make their
opinion known and select their leaders, that is true.

Mr. Bentsen. My time is up, but I have another question. I have
been waiting — and I am also late for a meeting I have got to make
a presentation at, but I do want to ask two things very quickly.

Mr. de Borchgrave, in your testimony, you cite comments by Mr.
Skuratov that he has continued to say that $3.9 billion of the IMF
$4.8 billion loan, made last year subsequent to August, never
reached the Russian shores, never reached the borders of Russia,
that that money was siphoned off.

101

Mr. DE BORCHGRAVE. It was sold directly, Congressman, to eight-
een banks that were on their list of favorites by the Russian Cen-
tral Bank; and Mr. Skuratov has given six interviews, to my knowl-
edge, in the past fifteen days.

Mr. Bentsen. And this is contrary to what the IMF has told —
certainly contrary to what the Secretary of the Treasury told us
this morning.

Mr. DE BORCHGRAVE. That is correct, sir.

Mr. Bentsen. And contrary to what the IMF has publicly stated
and what Price Waterhouse and others have found.

Mr, DE BORCHGRAVE. That is correct.

Mr. Bentsen. Have you reviewed the evidence or has Mr.
Skuratov provide any evidence to your committee?

Mr. DE BORCHGRAVE. No. Mr. Skuratov, last time I saw him was
about a year ago. What I am referring to now is the interviews he
has been giving in Moscow.

Mr. Bentsen. I only say that because I would be interested in
it. I, like the Chairman, have been supportive of the IMF when we
think they are doing a right job. I, you may know, raised objections
with respect to our ongoing loan facility with Indonesia vis-a-vis
the East Timor situation. I don't think that is a credit we should
want to underwrite under these circumstances, and I would find
the same to be true if, in fact, there is credible evidence which can
be produced that would indicate that IMF funds are being siphoned
off. And I would encourage you, if you have the ability to bring that
forward, because no one else seems to have brought that forward.

Mr. DE BORCHGRAVE. What I would respectfully suggest, Con-
gressman, is that a staffer from this committee or several staffers
go to Moscow and talk to Mr. Skuratov on or off the record.

Mr. Bentsen. I defer to the Chairman, since he controls the
pursestrings of the staff".

Finally, let me just restate, Mr. Palmer, you are saying that all
of this comes down — a vast majority of what is going on, this sort
of organized corruption, Russian-style crony capitalism, if you will,
the origin of it really goes back to the Communist Party under the
old Soviet Union back in the late 1980's and early 1990's when
they foresaw the breakup; am I interpreting your comments cor-
rectly?

Mr. Palmer. Absolutely correct. Congressman.

Mr. Bentsen. This is not happenstance or coincidental or what
happens, as we have seen in other countries, where you go break
up and decentralize and oligarchs appear without basic structures
in place. This was a planned event, in many respects?

Mr. Palmer. Exactly right, sir, and I tried to document that in
my testimony.

Mr. Bentsen. Thank you, Mr. Chairman.

Chairman Leach. Thank you.

Mr. Lazio.

Mr. Lazio. Thank you, Mr. Chairman. I welcome the panel.

I would like to begin with a question for you, Mr. Shvets, and
I want to thank you for your testimony, and I was interested in
your testimony concerning the KGB attempt to set up a bank here
in the States, and I am wondering what subsequently happened in
terms of a strategy. Were there human resources, KGB resources,

102

that were used to infiltrate U.S. banks subsequent to that? Is that
your knowledge of part of the strategy?

Mr. Shvets. It is my understanding that attempts of establishing
a KGB-controlled financial institution on American soil is not in
the cards anymore, because they were refused this opportunity in
1994 — 1993, I am sorry. So from this point on, their attempts, they
concentrate — focus their attempts on penetrating Western financial
institutions through the countries of the Third World.

It is easier to penetrate a banking institution in the Caribbean,
for instance, even though there are other problems. It is very dif-
ficult to launder $10 billion through a bank in Costa Rica, because
the whole budget of the country is $9 billion.

Mr. Lazio. I can understand that.

Mr. Shvets. On the other hand, they are working on it.

The last information I got was that in April this year several
Ambassadors of small Central American countries in Moscow were
approached by — from what they describe to me, they were people
connected with intelligence service and organized crime, and the
offer was that — the message, the Russian message, was that there
is a huge amount of IMF money stashed in European banks and
this money is being handled by a small Russian financial company.
This Russian company would finance any commercial project, any
business project of this small Central American country with the
understanding that the small country gets 10 percent, and 90 per-
cent goes to Russia. And the total amount of loan they were consid-
ering lending this way was around half-a-billion dollars.

Several Ajnbassadors were approached and their governments
took this offer very seriously, so seriously that the finance minister
of Guatemala went to Moscow to conduct specific negotiations.

Mr. Lazio. Let me follow up on that. If anyone else has any other
information, I would like for them to join in. But my question is,
subsequent to any possible KGB placement, was there any attempt,
do you think — you know, this is to the rest of the panel — for there
to be organized crime placement? And I noted when you talked
about organized crime and KGB, you mentioned them in the same
breath in terms of this approach.

Is there any infiltration of organized crime in U.S. banks? How
broad is it? Do you think they were placement in key banks? Is
that part of an enterprise that reaches, I am sure, to all parts of
the world?

Mr. Shvets. I think that American law enforcement agencies
should focus their attention on the banks that have Russian-speak-
ing employees in the areas with a concentration of Russian-speak-
ing population. I don't want to change Russian citizens living in
United States; however, I do know that Russian organized crime
groups living in such areas as New York, New Jersey and Califor-
nia and Florida, they keep an eye on Russian-speaking citizens
who have their jobs with financial institutions in this country.

Mr. Lazio. Mr. Palmer.

Mr. Palmer. I would just Uke to add one thing to this. The Rus-
sian's organized crime, this society lives by corruption. They are ex-
cellent at corrupting. They also, organized crime, inherited a lot of
former KGB officers, unemployed, so you see a lot of the techniques
used. If you are a small business, you might have someone come

103

up and say, "We are your new partner, we want 50 percent of your
bottling plant or store or whatever." If you are a bank, it works a
little differently.

I have looked at eleven major cases of U.S. firms who were de-
frauded by Russian organized crime. These are firms, I am sure the
technique is the same, and it would make sense to you. They find
someone in the institution who isn't adverse to making more
money. I will give you an example.

There is a major U.S. firm. They started a project with Russia.
They never looked to see who they were doing business with. It
was such a great deal, they had to hurry and get it done before
they lost it. Four years down the road they found out they were
short $32 million.

Mr. Lazio. They lost it?

Mr. Palmer. Yes. So they said, "Well, actually this is serious
money. We have to look at it." So what they found was it was a
vice president who had pushed this thing the whole time, and we
were able to trace in the neighborhood of $2 million had gone to
a Caribbean island and appeared to be his.

The company approached him and said, "Look, the money is
missing", and he said, "I can't tell you anything about it." They
said, "Well, we would like you to leave." He said, "Well, gee, I
would like to go, but you know I have a contract. I would like more
money." Basically to get him to leave without a scandal they had
to almost double his golden parachute. It cost them $32 million.

What I am saying is, they find people within the organization
that work. It is not just Russians. They can find anyone in the
bank who can help them move the money. I think you may be look-
ing at an example of that right now.

Mr. Lazio. Could I ask just one question? I am sorry. I just want
to know if anyone here at the panel can tell me anything about
Bruce Rappaport.

Mr. DE BORCHGRAVE. I have known Bruce Rappaport since I was
based in Geneva, when I was Chief Foreign Correspondent of
Newsweek Magazine for seventeen years. I had opted to live in Ge-
neva, base myself there, and that is how I got to know Mr.
Rappaport. And what I know is that he was always involved in the
days of the Cold War on business with the Soviet Union. That is
all I know about him.

Mr. Lazio. Do you know an3rthing about his involvement with the
Bank of New York?

Mr. DE BORCHGRAVE. No, sir.

Ms. Williamson. Representative Lazio, I would add that they
were rather open about this. I interviewed Yuri Kovalovki in early
autumn 1991; and he is a well-known gentleman with the KGB
until just several days ago, Mr. Shvets has informed me. But at
any rate, there was a lot of talk about reorganizing the KGB at
that time, and they split the agency into a domestic and an exter-
nal service — so forth, so on — but we were discovering that — and he
was very frank.

He said, "We are going to use our agents for economic purposes,
for economic development"; and I said, "Well, gee, wouldn't that be
more appropriate for someone in the finance ministry or other

104

areas?" "Oh, no, these people, that is what our job is going to be
is economic development."

It was quite clear what he meant. So you could get this informa-
tion very early.

Mr. Shvets. If I may add. Congressman, after collapse of the So-
viet Union the Russian government had problems paying salaries,
even to intelligence service employees. So what Mr. Primakov did,
when he was appointed director of the Russian intelligence service,
he allowed intelligence services employees to do private business on
the basis of information, intelligence information, and intelligence
contacts that they had, so basically to make their own living using
their official positions; and that is exactly what happened. They
went out, using different compromising materials, intelligence in-
formation, and they penetrated a huge amount of businesses. This
is not all of them. If you have a successful Russian business, they
give them three or four months — which have business with foreign
partners, they give this company three or four months to see how
it works. If the company looks successful, two visitors from the
Russian intelligence service visit the boss of this company, and
they offer a deal, if you don't want to have problem, if instead you
want to be helped, we want two positions in the administration of
your company, second from the top, and we want — this is a subject
of negotiation — from 30 up to 60 percent of profit of this company,
and I was told that in most cases this offer is accepted.

Mr. Lazio. Official extortion. Thank you very much, Mr. Chair-
man.

Chairman Leach. Thank you, Mr. Lazio.

Mr. Royce.

Mr. Royce. Yes.

Mr. de Borchgrave, in your capacity as director of the global or-
ganized crime project, how would you evaluate the Administration's
policy toward senior level reformers in the Russian government
and reformers outside the government? Have these reformers re-
ceived the support that they needed to implement actual changes;
and absent United States support, were their efforts doomed to
fail? In other words, were we the only ones that could have affected
this?

And the second question I would ask you is, to what degree has
the IMF policy of distributing funds without any condition for loans
aggravated the problem of capital flight? Are there specific legal or
economic reforms that would address the capital flight problem and
provide incentives for Russians to keep their money in the country
or are the problems so deeply rooted that nothing short of finan-
cial— just complete, fundamental cultural change could remedy this
situation?

Mr. DE Borchgrave. Well, sir, to pick up again on what I said
at the end of my testimony, where do we go from here? I said, as
I recall, we should weave Russia, in close cooperation with the
Duma, into a very tight web of mutual interest with the United
States with a view to encouraging transparency, the rule of law
and the emergence of a Russian middle class.

I don't think it is too late for that. We have to just get on with
it; and clearly we have to bypass the family in the Kremlin, and

105

that can be done in my judgment. As for the reformers that you
asked me about, there were no reformers.

Mr. ROYCE. Back to the issue of IMF distribution of funds with-
out conditions on those funds and whether or not that aggravated
capital flight.

Mr. DE BORCHGRAVE. Of course, it did, Congressman. And clear-
ly, new rules and regulations are required; and that is, I assume,
the assignment of the Banking Committee.

Mr. RoYCE. Let me ask another question to any of the witnesses,
and that is, several of you today noted that corruption is now kind
of an inherent part of the system there, and the Russian Duma has
passed anti-money laundering legislation, I think, twice; somebody
said five times. President Yeltsin has vetoed it each time, which
suggests lack of commitment to addressing the problem created by
the thriving criminal element in Russia.

What are the prospects for meaningful anti-money laundering
legislation being enacted now? I mean, has the attitude changed
there in the executive branch?

Mr. DE BORCHGRAVE. I go back, sir, to what happened with FDD
42 — I believe the number was number 42 — in 1995, President Clin-
ton decided to crack down severely on money laundering centers
the world over, and if we could not persuade them to curtail these
activities, we would then take them out of the American financial
loop. The problem with that FDD is that there is no such animal
as the American financial loop. There is a seamless global elec-
tronic web in which money can be laundered through six different
countries in one day.

Mr. ROYCE. And what about the prospects now — for any of the
panelists — of getting the Russian president to change his attitude
about constantly vetoing these bills passed by the Duma?

Ms. Williamson. I would just say you could probably get that
legislation signed, but it doesn't mean it is going to be enforced.

Mr. ROYCE. Only a month ago he vetoed it, right?

Ms. Williamson. Right. But again, even as a FR move, he might
do that, but it isn't relevant to whether it will be enforced. And an-
other element to the capital flight as well as the looting, the state-
sponsored looting of Russia, is the draconian taxation which the
IMF encourages and asked the Duma to raise taxes even further,
and if these taxes were imposed upon our population, we would
have similar problems, quite frankly.

So, again, I go back instead to of lots of forms and regulations;
let us get serious about the property rights and taxation and ra-
tional economics.

Mr. ROYCE. I see.

Yuri.

Mr. Shvets. The problem right now in Russia is that the system,
legal system and law enforcement practice, is such that it is impos-
sible to do successful business following the law. If you strictly fol-
low the law, if you pay all taxes, if you pay all import, export dues,
you are broke. So basically any successful businessman has just
committed a sort of crime.

So, if you even pass the law, it will again be up to a bureaucrat
in a law enforcement agency to make a decision. This businessman

106

will be prosecuted, and this one will not be prosecuted; and again,
you have a problem of corruption.

So I don't think that — even if the legislation is passed, I don't
think that it will be a solution.

Mr. ROYCE. I see. OK. Thank you.

Yes.

Mr. Palmer. I would think the chances are still rather slim, be-
cause the Yeltsin family is still very concerned about maintaining
their economic, financial support coming into the elections, where
they hope to put up their own candidate; and they are worried
about their futures.

But I agree with everyone here. If they passed it, it would never
be enforced anyhow. I have lived in these countries and seen that
their laws have no relationship to what the courts do. Unfortu-
nately, it is a fact that most judges can be bought. I mentioned in
my testimony that a company has a decision by the Russian su-
preme court, and in two years hasn't been able to enforce it, re-
garding one building, and the courts have no effect.

On the other hand, it would be effective, at least if we had some
document, through which we could say, "Aha, at least to us it looks
like money laundering in Russia."

Mr. ROYCE. Let me make a point and that is, from my stand-
point— I understand the points you have made, but from my stand-
point, for the Duma, if the Duma wanted to do an investigation,
at least if there was a law on the books, they would have the right
to access the information. But currently they cannot trace money
laundering, because there isn't even a law to point to, because it
has been repeatedly vetoed; and that is why I raised the point. But
would you concur with my analysis on that point?

Mr. Palmer. I think it is absolutely an essential first step, and
I couldn't agree more, sir. I think it is absolutely critical that we
press for this. What type of success we will have is another matter.

Mr. ROYCE. I understand your wider point on the front in terms
of the rule of law being inoperable. Well, thank you again.

Chairman Leach. Thank you, Mr. Royce.

Mr. Weldon, do you want

Mr. Weldon of Pennsylvania. I just think the testimony from
all three panels has reinforced the notion that we can't impose re-
quirements on Russia unless we have a viable process that works
within Russia. We have not done enough, I think, to solidify the
nature of democratic institutions in Russia. We have been so pre-
occupied with bolstering up what is now a floundering presidency
that we have ignored the institution of parliament, which could to
some degree have the ability to provide a check and balance inside
of Russia, and therefore, I think that should be a top priority.

In closing, I would just like to ask if they could give us some of
their own views on, one, are the major potential candidates for suc-
ceeding Yeltsin, namely, Luzhkov, Primakov, Putin? Do they have
any ties to corruption that perhaps Yeltsin and Chernomyrdin have
had?

Number two, who is really running Russia today? I am firmly
convinced it is not Yeltsin. Is it Tatyana? Is it Barazovsky? Who
is in charge?

107

And number three, do the tentacles of the corruption effort in-
vade MINATOM, the Ministry of Atomic Energy and the nuclear
stockpile of Russia, and are they also intertwined with the Ministry
of Defense and agencies like Rosvooruzheniye who does the arms
marketing for much of Russia's conventional arms?

Chairman Leach. I apologize to my colleague. This is a treatise
he is asking for, and I am going to ask for all of this to be summed
up in about a minute-and-a-half. We have a timing constraint.

Mr. Weldon of Pennsylvania. If they can put it in the record,
also.

Chairman Leach. Those are tremendous questions.

Mr. DE Borchgrave. Very quickly, Congressman.

Chairman Leach. I know you will speak for the panel.

Mr. DE Borchgrave. I can't, because I have learned from long
experience, as you know, Mr. Chairman, that political forecasting
has made astrology look respectable in recent years. But I would
say they are all connected in one way or another with the people
we consider bad guys.

The Luzhkov-Primakov combination, no question that they won't
be much of a change from what we see today. The only one that
I think is totally clean is Mr. Yavlinsky of the Yabloko party.

Chairman Leach. You have 30 seconds.

Mr. Palmer. There is credible evidence that Mayor Luzhkov is
head of one of the largest crime families in Russia. If we look at
Mr. Putin, he, as I showed in my testimony, was part and parcel
of looting the state; and he was involved in it for years, and then
he was involved with Navatex.

Mr. Primakov oversaw the use of the KGB to move the money
out of the country, rebuffed attempts by the Duma to investigate
it and then later said, oh, well, maybe we should form a committee
to see where it went. I really don't see any honest faces on the hori-
zon.

Chairman Leach. Let me conclude then with a comment.

Mr. Shvets concluded his original testimony in terms of arguing
what we might do with the observation that if we strengthened our
money laundering laws, that would be a great service to Russia, be-
cause strengthening laws in the West becomes a deterrent for Rus-
sians to bring their money out. In addition, it serves as a basis for
future prosecutions by future governments, or even conceivably by
current prosecutors.

Now, I stress this because money laundering might seem to
many as a modest legal dilemma, but underlining, money launder-
ing is someone's accumulation of resources that may involve a very
spectacular criminal activity, and so from money laundering you
get a lens to see things. You also get the prospect of looking at
other laws that might be violated.

And finally, let me just observe that in terms of kleptocracy, we
had a modest model on the world stage fifteen years ago in the
Philippines where Ferdinand Marcos and his wife appeared to gar-
ner a fortune in the several billion and possibly larger range. Upon
their demise, the government of the Philippines had a basis to lay
claim in some circumstances, and Western governments were will-
ing to assist, including the Swiss. And I only stress this because,
from a Russian perspective, I would go back to the point, if they

108

are going to allow capital to leave the country, they ought to make
very strict restrictions that it only go into Western financial insti-
tutions that may come under Western law, and there must be an
end placed to these money center havens that are created for one
singular purpose, and that is for illegal funds to be deposited and
no other purpose that I can gather, other than lack of regulation
and avoidance of scrutiny.

And, therefore, it is incumbent upon the United States to lead in
cracking down on money laundering as a technique to crack down
on much more significant crime, and crime that has enormous im-
plications for the national interest of the United States and world
security.

Let me thank all of you for your extraordinary testimony and I
appreciate it very much. The hearing is adjourned, and we will
meet tomorrow with another series of panelists.

[Whereupon, at 5 p.m., the hearing adjourned.]

RUSSIAN MONEY LAUNDERING

WEDNESDAY, SEPTEMBER 22, 1999

U.S. House of Representatives,
Committee on Banking and Financial Services,

Washington, DC.

The committee met, pursuant to call, at 10:05 a.m., in room
2128, Rayburn House Office Building, Hon. James A. Leach,
[chairman of the committee], presiding.

Present: Chairman Leach; Representatives McCollum, Roukema,
Bereuter, Lazio, King, Royce, Metcalf, Barr, Kelly, Cook, P. Ryan
of Wisconsin, Biggert, Terry, Green, LaFalce, Vento, Waters, C.
Maloney of New York, Bentsen, J. Maloney of Connecticut, Sher-
man, Lee, Goode, Inslee, Moore, Gonzalez, S. Jones of Ohio,
Capuano and Forbes.

Chairman Leach. The hearing will come to order for a second
day of hearings on this precise subject, but fourth or fifth day of
hearings in the last year-and-a-half on Russia. And I would like to
just address a couple of philosophical issues that may seem a little
out of sorts in the context of specific actions of specific individuals
or companies. When you think about it, for most of this century the
world has been engaged in a battle between communism and cap-
italism. That battle has been put aside, if not the West having
largely prevailed, although there is some question now, the Cold
War being over, whether the peace has been won.

But it strikes me the new great antagonism in the world today
is between capital systems that operate under the rule of law and
those that operate outside the rule of law, and what you have here
as we look at Russia is a society in which free markets are develop-
ing, but they are developing in such a way that there is a lawless-
ness. In fact, as one of our witnesses yesterday indicated, law ap-
plies to the poor and contacts apply for the rich.

Interestingly, philosophically in communism there are two great
flaws in Marxist philosophy. One was the view that history was
based on a march in which individuals weren't necessarily account-
able, because historical forces were the dominant forces, and you
have a class struggle, both of which I always thought had virtually
no basis in reality of either history or philosophy. Although iron-
ically in the circumstances developing in Russia today, we have un-
Marxist elements that are tied to these theories; that is, you have
a new class that has been put in power that is a class that has
never existed in world society in a like manner before, and this
new political power class has now come to control instruments of
economics. I don't believe personally that any society can long

(109)

110

stand in which very few control all the wealth and the very many
have virtually no opportunity.

And so by a virtual accountability sense, there is real question
of whether democracy can hold in this kind of circumstance, and
I believe that we in the West have an obligation to cease standing
up for governments in power and start standing for people and
their plights, and that what we should be doing in the West, led
by the United States, is identifying with the Russian people, not
with their leaders.

In this regard, when it comes to international finance, I don't
think you can walk away in Russia. On the other hand, when you
look at any institution like the IMF, which give large macro-eco-
nomic adjustment programs to central banks that are not perfectly
accountable, and which, it appears, have been leading in social
theft, one of the questions is, "Is it justified for the United States
to support IMF lending to Russia at this time?" I think this is very
dubious.

On the other hand, there is a second great institution of inter-
national finance called the World Bank, which is what might be de-
scribed at the micro level instead of the macro level of economics,
and I personally think we ought to be giving emphasis to World
Bank assistance to Russian people, perhaps having World Bank
contract out with Western banks or community-oriented financial
institutions instead of state-controlled, monopolistic enterprises so
that money can flow for economic development for the sake of the
Russian people.

In any regard, today we have a series of witnesses who will talk
about the issue of crime in Russia and the issue of money launder-
ing, and one example of significance from an American banking
perspective of the possibility that will reveal, shed light on how
funds from Russia come into the Western banking system, whether
they be perfectly legally from a Russian or American perspective or
with some questions as to their propriety.

[The prepared statement of Hon. James A. Leach can be found
on page 347 in the appendix.]

At this point, let me turn to Mr. LaFalce for any opening com-
ments he might have.

Mr. LaFalce. Thank you very much, Mr. Chairman. I think
these hearings are extremely important. About a decade or so ago,
it became obvious to the world that we were witnessing a great mo-
ment in history, a moment when a transition would take place, a
transition from Communist states, with centrally planned econo-
mies, to something else. Some people, they thought they knew what
that something else would be, but nobody really knew for sure.
Many people say, "Well, we are going to go from communism to
capitalism." That is much too simplistic; but, of course, there are
difficulties with both.

I am often fond of reading encyclicals of Pope John Paul II, and
he will condemn the evils of communism and give solace to us of
the United States sa3ang, "Aha, we are right." But he will also con-
demn the potential evils of the capitalistic system, too, which ought
to make us stand up and say, "Well, now, wait a minute, you know,
you have to be careful. If you are going to have a capitalist econ-

Ill

omy, you have to have certain rules and regulations that are fair,
that are enforceable," and so forth.

And whatever your political system, whatever your economic sys-
tem, there is something that must always be central, and that is
not something in the abstract. It is not a bunch of figures, budget
deficits, budget surpluses, GNP growth, GDP, whatever it might
be. The most important concern of all individuals should be the
condition of the human being, the condition of the human being
within the United States, the condition of the human being in Rus-
sia, condition of the human being in Mexico, and so forth.

And so whatever policies we adopt as a Nation, our first question
should be how will this affect people in our own country, and be-
cause things, what we do, have ramifications elsewhere, how will
it affect people elsewhere. We are especially obligated to ask that
question, how does it affect people elsewhere, when we take action
within multilateral institutions, whether that is the IMF, the
World Bank, European Bank for Reconstruction and Development,
InterAmerican Development Bank, you name it.

I don't think that we have had before us on all occasions the cen-
trality of human beings and their condition in the actions we have
taken. I think also that we have so glorified capitalism that we
have not been mindful enough of its problems, and we clearly have
not been mindful enough of the problems that can so easily come
about in making a transition from one type of system to another,
the transition from communism to a basically capitalist economy.
That is why I was so concerned going way back to the early 1990's,
introduced legislation that was passed that created the Central Eu-
ropean Small Business Commission, so that we could help develop
a small business sector in these formerly Communist states. It did
excellent work, in my judgment, but then we couldn't get it reau-
thorized and reappropriated. That is why I was so concerned.

I thought the most important phenomenon taking place circa
1993, 1994, 1995 to 1996 was the phenomena of privatization. We
were witnessing privatization on a scale and in a manner that had
been unknown to the world, and we would either do it right, or we
would let this golden opportunity slip through our hands. In large
part we let a tremendous amount of opportunity slip through our
hands, we being a lot of people. World Bank, the private consult-
ants. United States, European Bank for Reconstruction and Devel-
opment, and so forth, and so much of the privatization went then
to the benefit of a relatively small handful of individuals, either le-
gally or illegally. That is one of the difficulties is so much of this
was done under the color of law.

So what do we do? Well, we do what we can right now, learn
from what we did or didn't do right and wrong; examine our laws,
most especially our money laundering laws, to see if the laws are
good, if the laws are being enforced, and if they are not being en-
forced, why not, and if they are good, but could be better, how so.
Then, of course, we have individuals such as the Justice Depart-
ment which look at criminal issues, and we have to be careful to
what extent Congress works compatibly with criminal investigators
so that nothing we do serves to be or proves to be counter-
productive, and I am always mindful of that. Anything we do I

112

want or the Chairman wants to be productive rather than counter-
productive.

So some of those are my initial thoughts. This is an important
hearing. I look forward to hearing from you, Mr. Robinson, and all
of the witnesses scheduled today and those witnesses that will be
brought in the future.

Chairman Leach. Mrs. Roukema.

Mrs. Roukema. Thank you, Mr. Chairman. I will limit my intro-
ductory remarks here and just express my regrets to everyone that
I couldn't be here for most of the hearing yesterday. I heard the
third panel, but as you know, we were experiencing Hurricane
Floyd disaster in two of my counties in northern New Jersey and
I had to meet with the Director of FEMA, James Witt, who had
flown in early yesterday morning, and the Governor of the State in
order to assess the damage and set up lines of communication and
organization to deal with the flooding problems. I am happy to say
that things seem to be under control.

I will however be reviewing the testimony of yesterday. I want
to express my extreme appreciation, Mr. Chairman, for the fact
that you are taking up these subjects; not only the foreign policy
components, but also and most central to our committee are the
questions of money laundering. As you know, I have held some
money laundering hearings, way back in April, and have proposed
legislation, the Bulk Cash Smuggling Act. I believe these hearing
expose what is being done in terms of money laundering, and what
should be done in the United States as well as what should be
criminalized and how we should have the law enforcement commu-
nity react.

But more importantly than that is the fact, Mr. Chairman, that
you introduced just this week, yesterday, and I am very happy to
be a co-sponsor of that legislation, the Foreign Money Laundering
Deterrence and Anticorruption Act. Mr. Chairman, there is great
need for this legislation. I think the need for stricter money laun-
dering laws is is being demonstrated clearly by these hearings.
Certainly my questioning today will focus on whether or not we
have learned enough from this particular tragic experience with
Russia and the Bank of New York to determine whether the legis-
lation, based on this experience, will be sufficient and comprehen-
sive enough.

I think we are going to learn some excellent things today. I
pledge, Mr. Chairman, that with the full knowledge of these com-
mittee hearings that we can, and should, all move together, hope-
fully in a bipartisan basis, to expedite the movement toward enact-
ing money laundering legislation this year. I certainly look forward
to what we can learn from our panelists today to help us achieve
that purpose. Thank you, Mr. Chairman.

[The prepared statement of Hon. Marge Roukema can be found
on page 356 in the appendix.]

Chairman Leach. Well, thank you, Mrs. Roukema.

Mr. Vento.

Mr. Vento. Thanks, Mr. Chairman. I don't have a prepared
statement. I want to again recognize the importance of this series
of hearings with this new focus on the transactions of cash flow
from the Soviet Union and from other countries I suppose it could

113

be expanded to. We are obviously looking at this and I think in sort
of a myopic way when we look only at the financial institutions
here and perhaps not looking at what happens in bond markets or
what happens in other equity markets that are taking place if we
really want to follow the entire flow of the capital.

Mr. Chairman, I heard in some of the comments of yourself and
some of my colleagues there was debate over the IMF, whether we
are going to look at simply the market-oriented forces of the condi-
tions and requirements that the IMF attempts to personify in pro-
viding some of the key loans that are made upon which many other
loans and financial arrangements depend, looking upon that and
whether or not we are going to look at what the human condition
is, and of course we hear this from our friends.

Of course, I have been advocating or attempting to look at the
human rights questions broadly insofar as they affect countries
with regard to Asia and certainly with the World Bank and its sis-
ter institution. That sister institution, that is what its primary
focus is, but invariably the other 180 nations that are members of
the International Monetary Fund don't always take kindly to the
U.S. view of culture and various rights of individuals.

And so I think we have to be aware of that phenomenon and
what the limits are, but I think it could come to and should come
to an agreement. I don't think that a sustainable free-market econ-
omy is sustainable based on an undemocratic or grave social injus-
tices that are embedded in some of the member countries that we
are attempting to deal with that have severe financial problems
and need sort of the financial architecture and the keystone posi-
tion that the IMF puts in place in those instances.

Mr. Chairman, furthermore, of course, as we look at our own in-
stitutions and how they can indirectly help a nation such as Russia
that is emerging and has an evolving market system, one that obvi-
ously has come without the institutional memory from a centrally
controlled economy, with all the other adjectives that are added to
its demerits, in looking at how we can assist, there has to obviously
be the will and the recognition within the country of the necessity
of the actions that we may take. And doing these, as I said, in a
myopic way just within the United States simply transfers, as has
often been pointed out, these activities to other banks, to other fi-
nancial entities globally.

So I don't know the answer. I appreciate that some are risking
putting forth solutions very quickly, including yourself, Mr. Chair-
man, and I think that it is a positive effort that is being made. We
obviously need to learn many of the aspects of this and whether or
not we can achieve agreement with the other financial entities and
policymakers on an international basis, including, I think — and
Curt Weldon's comments were, I think, well placed — in not relying
simply on the one personality or one leader in Russia, but relying
on and trying to establish better relations with other government
and state institutions, including the Duma, in Russia.

Mr. Chairman, I am pleased to see our former colleague Senator
DeConcini is present. I wanted to put you in New Mexico for a
minute, Dennis, but I know that he has maintained in this and ob-
viously is working and representing some of the witness/clients
that are present today.

114

Mr. Chairman, thank you.

Chairman Leach. Thank you, Bruce.

Does anyone else seek recognition?

Mr. Lazio.

Mr. Lazio. Thank you, Mr. Chairman. Just briefly I just want to
make two remarks. First of all is again to emphasize the fact that
it is important for us to make some assessment about American
complicity in the crisis in Russia. Everything ranging from the dra-
matic increase in poverty from about two million people to sixty
million Russians living in poverty, a tremendous health crisis that
is occurring now that is unseen in even some Third World coun-
tries, a dramatic increase in alcoholism among Russian males, the
diplomacy between America and Russia that can at best be charac-
terized as chilling, an economy that is now roughly the size of Den-
mark, and how this all happened and whether Russia will look
back upon this and say America could have done better and needs
to do better.

I want to make a personal remark about Tom Renyi, who is testi-
fying today, the CEO. They are obviously in a difficult position, but
I think it is extraordinarily graceful of him, frankly, as a CEO to
be here and to answer these questions, and I think it shows great
leadership at the CEO level for an important institution in New
York.

Chairman Leach. Thank you very much.

Mrs. Kelly.

Mrs. Kelly. Mr. Chairman, I have a statement, but in the inter-
est of time I would like to have unanimous consent to insert it in
the record.

Chairman Leach. Without objection, so ordered.

Mrs. Kelly. Thank you.

Chairman Leach. Mr. King.

Mr. King. Thank you, Mr. Chairman. I don't have any formal
opening statement. I just want to commend you for initiating these
hearings. They certainly go to the heart of the issues that could
have both criminal and foreign policy implications. So I look for-
ward to listening to the testimony here today.

I regret I could not be at the hearing yesterday. I was at the
U.N. for the opening of the session, but certainly from what I have
read and from what I have seen in going over the testimony, it
seems to have been a very productive hearing, and along those
lines, I want to commend you also for the legislation you have in-
troduced. I intended going on as a co-sponsor yesterday, but I was
not here.

I look forward to the testimony today, and again, these do go to
the heart of very, very significant issues which have criminal and
foreign policy implications, and I commend you for having the ini-
tiative to bring this forward.

Chairman Leach. Thank you, Mr. King.

Mr. Ryan.

Mr. Ryan. Thank you, Mr. Chairman. This issue is something
that I think we are going to learn quite a bit about. We have a lot
to learn, but as we look at these things, as we look at the news-
paper accounts and the testimony from the witnesses, it seems to
me that the problem with our policy toward Russia is not so much

115

a coddling and coping with organized crime units at the highest
level in Russia with respect to our U.S. Administration's policy as
much as it is a high-stakes crap shoot policy of picking the only
route we think that is safe for Russian policy in supporting the
Yeltsin administration and going to the point of denying and not
wanting to know any other information.

I think we are finding, and we are going to find, that our Rus-
sian policy is basically that as we heard from the testimony of oth-
ers.

The concern that I have — and the pleasure that it is to see that
we have several members of the Duma here with us today, which
I would like to welcome on behalf of Curt Weldon, who I know is
not here, is this. It is my concern that the people in Russia think
that Western capitalism is cronyism. The people in Russia think
that Western capitalism is those who have the assets and the
power are the ones who survive, but I would like to send a message
to the people of Russia, and I think Congress should send a mes-
sage to the people of Russia that that is not what we see as demo-
cratic capitalism.

What we see as democratic capitalism is this: You are bound only
by your God-given talents and your own effort. That is what cap-
italism is. Capitalism is an asset. It is not cronyism. Capitalism is
liberalization of the market and everybody having a stake in soci-
ety and moving forward based on the core premise of the rule of
law. That is what capitalism is. That is what we believe capitalism
is, so that when you go to your bank, you know that your money
is safe. That is something that people don't enjoy in Russia today.
It is very foreign to us here in America. We know our money is safe
in the bank, but they don't realize that their money is safe in the
bank in Russia.

So it is a message that I think is very important for Congress
to send to the people of Russia is that we want to see real capital-
ism flourish in Russia. That is what these hearings hopefully will
come about. Hopefully we will have a shift in American policy on
behalf of the people in Russia, on behalf of real capitalism and the
rule of law, and hopefully that is the good that will come out from
all of the bad things we are going to be hearing over the next cou-
ple of months.

Thank you, Mr. Chairman.

Chairman Leach. Thank you, Mr. Ryan.

If there are no further opening statements, let me welcome — ex-
cuse me, the gentleman from Washington.

Mr. Metcalf. Thank you very much, Mr. Chairman.

Money was allocated for relief of people in these vast trans-
actions. I am deeply concerned about the apparent problems of
money laundering. Eight months ago I was in Russia, and we met
with people that were in need, and I now thank the Chairman very
much for holding these hearings and saying if wrongdoing or cor-
ruption or personal gain has been involved in this scenario, then
dramatic action is absolutely essential.

Thank you, Mr. Chairman.

Chairman Leach. Thank you, Mr. Metcalf.

If there are no further opening statements, let me welcome to our
committee, I think for the first time, James Robinson. Mr. Robin-

116

son is a Michigander. He is a former United States Attorney, and
he is currently the Assistant Attorney General in the Criminal Di-
vision of the Department of Justice.
Mr. Robinson, please proceed.

STATEMENT OF HON. JAMES K. ROBINSON, ASSISTANT ATTOR-
NEY GENERAL, CRIMINAL DIVISION, U.S. DEPARTMENT OF
JUSTICE

Mr. Robinson. Chairman Leach, Ranking Minority Member La-
Falce and Members of the committee, I want to thank you for this
opportunity to discuss the nature and scope of the threat posed by
Russian organized crime groups and the steps the Department of
Justice is taking to combat that threat.

In preparing for my testimony today, I have prepared a written
overview of the problem of organized crime in the United States
emanating from the former Soviet Union. I have also discussed
some of the measures law enforcement has been engaged in to com-
bat international organized crime in general and Russian organized
crime in particular. I have given a copy of these written remarks
to the committee, and to expedite the proceedings.

Chairman Leach. Without objection, your full statement will be
placed in the record.

Mr. Robinson. I will summarize some of the key points and then
answer the questions the committee Members may have to the best
of my ability.

Before I do so, I would like to take this opportunity, however, to
express the appreciation of law enforcement for the assistance pro-
vided to it by this committee over the years and as recently as this
week in assisting law enforcement in providing it with the tools we
need to combat money laundering. Making efforts to assure that
crime does not pay and being able to identify and prosecute illegal
activities through the money laundering statutes is among the
most effective ways of combatting criminal activities and deterring
criminal conduct.

As stated in the Chairman's letter inviting me to be here today,
I know that much of what you are interested in involves recent al-
legations that appeared in the press involving possible Russian
money laundering at the Bank of New York. However, it would po-
tentially prejudice the criminal inquiry currently under way to dis-
cuss that investigation in great detail or what has been uncovered
so far, and I obviously have limited ability to do that. I can, how-
ever, give you a general idea about the investigation, how it has
been structured, and I will be happy to do that.

The inquiry into suspicious transactions at the Bank of New
York is being conducted by agents of the Federal Bureau of Inves-
tigation's New York field office, and with prosecutors from the
United States Attorney's Office for the Southern District of New
York. Analysts from the Federal Reserve Bank of New York and
the Internal Revenue Service are also working with this investiga-
tive group.

This has been and will continue to be an exceedingly complex in-
vestigation. The volume of transactions passing through a major
United States bank on any single day is simply staggering, and
money laundering investigations necessarily involve painstaking

117

research of these many transactions. Significant investigative re-
sources have been and will continue to be expended in an effort to
ensure that we uncover the entire story and bring any merited
criminal charges for violations of United States law.

Last week as part of this inquiry, I and other prosecutors and
agents met with a team of Russian law enforcement officials in
Washington. We discussed ways we could cooperate consistent with
applicable law and our respective law enforcement policies and
practices, and we agreed on improved procedures to secure nec-
essary assistance in conducting this investigation.

I should also note that except possibly in terms of volume and
number of transactions, this matter has many of the same charac-
teristics as numerous other cases we encounter with some regular-
ity. I regret that I will be unable to discuss those matters in great-
er detail at this time because of the severe limitations and restric-
tions that prevent us from commenting in public on pending crimi-
nal investigations. We are also sensitive to a number of policy con-
siderations, a sensitivity which I know is shared by Members of
this committee, which make us extremely reluctant to make public
comments on a case even in situations where we might arguably
be able to do so should we choose.

Among those policies is the need to protect the identity and safe-
ty of witnesses. Premature disclosure of an investigation can cause
subjects of that investigation to destroy or alter or manufacture
evidence and could deter witnesses from coming forward. Also of
very serious concern to those of us in this country is the need to
prevent unfair damage to reputations that would result if we were
to prematurely accuse people of committing crimes that may never
be charged.

I have a few other remarks that I would be happy to finish.

Chairman Leach. The red light doesn't apply to you. You are
free to proceed at some length, Mr. Robinson.

Mr. Robinson. Thank you.

I would also like to make the point that in complex, fast-moving
matters such as this one, there is a very real danger that any com-
ment that I might make on day one of a matter could be rendered
inaccurate by new evidence discovered on day two, and that is an-
other reason for great circumspection with regard to comments on
an ongoing investigation.

With respect to the general problem of Russian organized crime,
I note by way of background, that since the fall of the Soviet
Union, Russian criminal groups have become more open, more or-
ganized and more powerful, and have a more powerful influence on
Russian society. Of particular interest to today's discussion is the
role that Russian organized crime groups may be playing in the
massive outflow of capital from the former Soviet Union. Clearly
billions of dollars are flowing out of Russia to foreign bank ac-
counts. These outflows resist comprehensive analysis. Some of the
activities may result from Russian individuals and businesses
sending their legitimate assets abroad for safekeeping. Some could
involve Russians conducting business with Western companies and
paying for Western goods. Neither of these activities are per se ille-
gal under United States law; however, the activities could involve
violations of Russian currency, tax or other laws.

118

We believe that Russian organized crime groups are using West-
ern financial institutions to launder the proceeds of their own ille-
gal activities in Russia. We further believe that Russian organized
crime groups assist Russian businesses and individuals in moving
assets out of Russia in a manner that attempts to evade the scru-
tiny of Russian law enforcement and tax officials. Because the
United States does not want to become the world's repository of for-
eign criminal proceeds, we must continue to combat Russian money
laundering and Russian organized crime activities generally.

Our strategy in attacking Russian organized crime is embedded
in the President's comprehensive International Crime Control
Strategy issued in May of 1998, a copy of which I am sure many
of you have seen. It has designated international organized crime
as a national security threat and directed United States law en-
forcement, diplomatic and intelligence agencies to intensify their
international organized crime efforts.

Additionally, the Department and other law enforcement agen-
cies are significantly expanding our presence in other countries and
building new relationships with foreign governments. At the same
time, we are continuing aggressively to investigate and prosecute
Russian organized crime activity that we discover in the United
States.

As of December 1998, the FBI alone had approximately 260
pending investigations targeting Russian and Eastern European
criminal enterprises. Our work in this area has already scored no-
table successes, including indictments and convictions of significant
Russian organized crime figures. Our prosecutions of Russian orga-
nized crime cases are handled by United States attorneys around
the country, in particular through the twenty-four organized crime
strike forces. These cases are coordinated through the Criminal Di-
vision, which also coordinates contacts with foreign authorities to
obtain evidence and to extradite fugitives from abroad. The strike
force model has worked extraordinarily well in combatting LCN ac-
tivities in this country, and the close network of strike forces is
well-suited to combat emerging forms of international crime such
as Russian organized crime.

I can say just as a footnote that a great deal has changed since
twenty years ago when I was the United States Attorney for the
Eastern District of Michigan. In those days it would have been,
frankly, quite unusual for United States attorneys in this country
and even members of the Criminal Division at Main Justice to
have had the involvement to the extent that we have in inter-
national criminal activities of all kinds in the narcotics area and
many other areas.

We feel we are making significant progress in dealing with Rus-
sian organized crime and other international organized crime
groups; however, some of the law and some of the resources we use
to wage this effort, particularly in the area of money laundering,
I think need to keep up with the developments and the techniques
of international crimes being used by criminals. With the addition
of some new legislative provisions of the type that the Chairman
has introduced and some proposals that we have as well, we think
that the fight against organized crime can be significantly en-
hanced.

119

For example, under current U.S. law, in order to prove a charge
of money laundering, we must allege and prove that one of the
specified unlawful activities listed in the money laundering statute
gave rise to the illegal proceeds, but only a very limited number
of foreign offenses now qualify as specified unlawful activities, and
I am delighted that the legislation that has been introduced — and
we are in the process of looking at that — introduced by the Chair-
man, addresses those issues.

Thus, the legislative provisions contained in these various pro-
posals and some that will be shortly submitted to Congress by the
Administration as the Money Laundering Act of 1999 would add
additional foreign crimes such as fraud to the list of permissible
specified unlawful activities for U.S. money laundering charges.
Other provisions in the Money Laundering Act of 1999 would make
it easier for Federal prosecutors to gain access to foreign business
records and enhance our ability to prosecute money transmitters
who knowingly accept criminal proceeds.

We look forward to working with this committee on these impor-
tant improvements to our money laundering statutes, and again,
we appreciate the fine work of this committee in assisting law en-
forcement as we move into the 21st Century where we will increas-
ingly need to address issues of international organized crime.
Thank you very much, and I will be happy to try to answer any
questions.

[The prepared statement of Hon. James K. Robinson can be
found on page 359 in the appendix.]

Chairman Leach. Thank you, Mr. Robinson, and I would also
point out to members of the panel that Mr. Robinson has a very
impressive opening statement that he has submitted for the record
that is of a more general nature rather than a specific case nature,
but I think is very, very helpful.

Let me in terms of opening comments say that, as you know, we
are looking at a particular case, and when you have cases, there
are sometimes back-biting that occurs, and the British Govern-
ment, for example, the Financial Times has reported, actually went
to the White House with concerns that our law enforcement au-
thorities were moving too slowly after information that it had pro-
vided to precipitate the case. We have an article in a major publica-
tion yesterday indicating that the British National Crimes Squad,
as well as the Department of State, believe in the New York bank
case that movement has been slow.

And so the question I have is not so much a criticism, but can
you assure this committee that all requisite efforts of the United
States Government will be marshalled on serious money launder-
ing cases of this nature?

Mr. Robinson. I can assure the committee that that is the case.
The Federal Bureau of Investigation has very close working rela-
tionships, as do members of the Department of Justice, with our
foreign counterparts. As you know, in an investigation of an inter-
national money laundering case, that is very important to have
close relationships with and to secure information from a whole
host of other countries, and I can assure you that we are working
closely with our international partners in addressing these matters.
It is being done rigorously and effectively, and I think, as you point

120

out, from time to time there are tensions between different agen-
cies of government, and we need to continue to work hard to see
to it that those don't get in the way of doing an effective, expedi-
tious job.

Chairman Leach. Fair enough.

Now, yesterday another major reporting agency from the press
indicated that Swiss authorities have expressed a desire to help the
United States in the case under review today, but that to help the
United States, a formal request has to be made to Swiss authori-
ties, and such a request has not been made. Is that something the
Department is prepared to address?

Mr. Robinson. I can address it in this way, and that is to assure
you that there has been contact and will continue to be contact
with foreign countries, including the Swiss and the Russians and
other countries with whom we need to work. As the Chairman
knows all too well, in order to successfully investigate a money
laundering case, one needs to identify the source of the money and
where it went, and to the extent these are international trans-
actions, we need the assistance of our international partners. We
have outlined in the submitted testimony the procedures that are
available. One of the reasons for the meeting with the group from
Russia was to make sure that the lines of communication were
open there, and we are continuing to do that with other countries
as well.

Chairman Leach. That was my final question. You met last
week with Russian counterparts to discuss issues of this nature
and others, but how would you characterize the level of cooperation
with U.S. law enforcement, and in particular, was this case raised,
and did the Russians have any information that they wanted to
share with you?

Mr. Robinson. We had a general discussion. It was very produc-
tive in terms of trying to clearly understand the different legal sys-
tems we have in our two countries, the money laundering statutes
here, the statutes that are available, the investigative techniques
that are available, and the agents and the prosecutors did meet to-
gether and tried to identify the kinds of information that needed
to be shared. And this is obviously the kind of thing we try to do
in any one of these investigations, and I know that we developed
a point of contact that we hope will facilitate the exchange of the
kind of information that is necessary to conduct a thorough and
successful investigation.

Chairman Leach. I appreciate that. I just want to conclude with
this observation: Historically we have always thought the United
States was the leading country in concerns for issues like money
laundering and international financial institution issues related to
bank regulatory enforcement. In this case, it appears that British
authorities have been ahead of us, and I want to thank and com-
pliment the British in this regard. In this case, based on one news-
paper article, for the first time, to my knowledge, instead of us
going to the Swiss and asking for them to be more forthcoming,
they have been more forthcoming than we have.

And second, the Swiss authorities, from a law enforcement per-
spective, appear to have done a more politically-sensitive and more
comprehensive law enforcement effort with regard to high officials

121

in Russia than the United States. And I would just simply express
to you, first, that it is good news where Britain is today. It is good
news how far Switzerland has come, and in a very competitive
sense I hope American standards are not going to be second best.
And so I would argue as strongly as I can that this is a very signifi-
cant area of endeavor, and I would hope the Department of Justice
would indicate to its subsidiary organizations, the Federal Bureau
of Investigation and U.S. Attorneys, that this is an issue of true na-
tional significance in a national interest way as well as in a law
enforcement way, and this issue be prioritized, and I would just
want to make it clear from a congressional perspective that I think
that is the way we all feel.

Mr. Robinson. I couldn't agree more, and I would only indicate
on the subject of news accounts with regard to activities back and
forth, with no disrespect to any members of the press who are here,
we can't believe everything we read in the newspapers.

Chairman Leach. Fair enough.

Mr. LaFalce.

Mr. LaFalce. Thank you very much.

Mr. Robinson, I would like to get a better understanding of the
enforcement mechanism that exists within the United States and
internationally to deal with what we consider to be money launder-
ing and with what other countries might consider to be money
laundering, because obviously we are dealing with an international
phenomenon, an international phenomenon that on the one hand
crosses national boundaries, on the other hand, in the era of the
Internet, knows no national boundaries, because you have transfers
virtually at the speed of light or the press of a button.

So I would like to look at the bodies of law, but mainly the struc-
ture that exists within the United States and internationally. Tell
me about FinCEN. Tell me about the role of the Justice Depart-
ment and the FBI. Tell me about the interrelationship or coordinat-
ing mechanisms you have with them and with the Federal Reserve
and the OCC and with the State bank superintendents, most espe-
cially the superintendent of banks for the State of New York, al-
though there are others, and because of the international nature of
it, what coordinating enforcement mechanisms exist internation-
ally.

Mr. Robinson. I think it is clear that it is more important than
ever before that there be the kind of coordination that you are
identifying. There are many actors. Obviously the regulatory re-
gime that exists to try to identify suspicious activities brings those
to the attention of law enforcement, to coordinate all of the actors
in the law enforcement agencies of the Treasury Department, as
well as the Justice Department and other components that are crit-
ical.

Because I don't want to take anything away from what I know
will be an announcement tomorrow by the Attorney General and
the Secretary of the Treasury with regard to the new money laun-
dering strategy, I hope you won't mind if I don't go into the kind
of detail that I expect will come out tomorrow in connection with
this, but I can tell you that the Justice Department, the Criminal
Division, has been working very closely with law enforcement in
the Treasury Department, the Federal Bureau of Investigation, the

122

United States Attorneys' offices in developing this money launder-
ing strategy that will be unveiled in some detail and comes as a
result of the work of this committee encouraging this activity to
occur. And I think that it will be an effective means of coordinating
the various components, and I think the assistance provided by this
committee and the statutes that you have been shepherding
through will continue to assist us in that regard.

Mr. LaFalce. That is it?

Mr. Robinson. Well, as I say, I don't want to get ahead of my
interference with regard to the strategy which I think is com-
prehensive and discusses many of these areas, and I don't want to
be getting ahead of my boss, the Attorney General of the United
States, and the Secretary of the Treasury with regard to these mat-
ters. I know there was some discussion by Secretary Summers yes-
terday with regard to this, and this will be discussed in detail to-
morrow.

Mr. LaFalce. This is a preview of coming attractions.

Mr. Robinson. Yes, indeed.

Mr. LaFalce. All right. We will be there tomorrow.

Let me go on. Does your office or does any United States office
have a handle on the extent to which organized crime or criminal-
ity was involved in the various privatization efforts within Russia?

Mr. Robinson. I would think that that kind of information as to
internal activities within Russia itself would be less likely, except
in an indirect way, to come to the attention of U.S. law enforce-
ment, whose primary responsibility, obviously, is the investigation
and prosecution of violation of United States laws. We, as well as
many others, are privy to a wide variety of intelligence information
concerning much of this activity, but with regard to the internal re-
lations of privatization in Russia, I wouldn't be the best person, I
suppose, to give you that detailed analysis.

We certainly see money flows, and as I indicated in my opening
remarks and in the testimony that we filed, the extent to which
these flows violate Russian laws is a subject that will require us
to go and try to deal with our counterparts within Russia and to
address some of the issues that are contemplated by the Chair-
man's legislation with regard to expanding the number of specified
unlawful activities that are contained within the money laundering
statutes.

Mr. LaFalce. Thank you.

Chairman Leach. Mr. McCollum.

Mr. McCollum. Thank you, Mr. Chairman.

Mr. Robinson, it has been reported to us that yesterday was the
first time the FBI contacted the Swiss Attorney General regarding
the case that involves the IMF and the possibility of money laun-
dering via the Bank of New York, and so forth. Is that true?

Mr. Robinson. I think the answer is no. There are contacts
throughout — we have constant contacts, frankly, with our partners
in other countries, including the Swiss, and while I don't want to
get involved in the specifics.

Mr. McCollum. I don't want you to either, but are you prepared
to assure us that that assertion to us is not true, that there were
earlier contacts and have been earlier contacts? You don't have to
go into details. I just want to know was yesterday the first time

123

or not that the FBI or the Department of Justice has been in con-
tact by the Swiss on this matter. Have there been any earUer con-
tacts?

Mr. Robinson. My understanding is there have been earUer con-
tacts, but just to make absolutely sure that did occur, I will double-
check.

Mr. McCOLLUM. Please do.

Mr. Robinson. I will correct the record if I am mistaken.

Mr. McCOLLUM. Thank you.

To your knowledge, does Russia have a truly independent judici-
ary?

Mr. Robinson. I would say that the issue of the challenge for
Russia with regard to the rule of law and the independence of its
judiciary is a serious challenge. One of the things we do within the
Criminal Division is to have a program of providing assistance for
training prosecutors and police agencies. There have been discus-
sions and I think needs to be continuing work with Russia with re-
gard to their achievement of a rule of law. That would, I think,
make an enormous difference to many of the issues that we are
talking about here today.

So my short answer, I guess, to your question would be I think
there is a serious question as to the independence of the judiciary
and the strength of the rule of the law. They are emerging and the
Russians are working hard, I know, on these issues and on their
constitution.

Mr. McCoLLUM. Do the Russian law enforcement agencies have
an effective program to combat internal corruption such as we have
in our law enforcement agencies?

Mr. Robinson. I certainly wouldn't indicate, based upon my
knowledge, that it would be anything comparable to the kinds of
thorough programs that we have here, and it is important that
those be developed, I think.

Mr. McCOLLUM. We have a very effective program with the Co-
lombian National Police in Colombia where we have all the drug
problems to theft. Their police officers, they have been very cooper-
ative with us on this level, and that ability has been demonstrated
that we, the United States, can, with the cooperation of a foreign
government, do that sort of work, help them do that work.

Is the level of relationship between United States Department of
Justice and our program that you just mentioned in working with
the Russians, is it up to the same par with that we have with re-
gard to the Colombian National Police? Are we working with them
to — have we established relationships to help them vet their police,
or are they less cooperative them than the Colombians?

Mr. Robinson. To the best of my knowledge, we have not been
involved in this vetted unit concept. I will double-check. But I
think we need to make the extraordinary expertise we have in this
country available, and I think that there have been discussions on
this subject and that there needs to continue to be discussions. Be-
fore I took this job, I was the dean of a law school for five years
and had a number of members I know of my faculty there, some
who speak Russian who were involved in training programs for
Russian prosecutors and judges. And I think that that kind of coop-

124

erative effort is one of the very important things that we can do
in this country.

Mr. McCOLLUM. It strikes me, Mr. Robinson, not only do we need
cooperation, we need to have some force here when it deals with
the International Monetary Fund, the loans we have made, how-
ever our future relationships are with Russia, to make sure that
they are willing to do this kind of detailed vetting that we have
with relationship to Colombia, in that example I gave you, because
that is the only way I think they are going to come around to
issues like the money laundering and the corruption in this coun-
try.

At the same time I am asking this series of questions, I am curi-
ous to know what your assessment is, what the Justice Depart-
ment's assessment is of the extent of the Russian mob penetration
of the Russian banking system? Do you have an assessment? Is
there one at the Justice Department? How widespread, in other
words, is the mob in control of Russia's banking system?

Mr. Robinson. I think there are concerns. There have been some
assessments done, but obviously our investigations are largely do-
mestic, and I think much of the information that exists on this sub-
ject is in the intelligence community and other places. And our in-
vestigations, we don't have jurisdiction to investigate crimes within
Russia itself. We have major concerns about it, some of which I
identified in my written testimony.

Mr. McCoLLUM. If I can, Mr. Robinson, I happen to sit on the
House Intelligence Committee, and I know that there is a sharing
of information that goes on, if there is an ascii, and we need co-
operation between the FBI and the CIA and intelligence units. So
I certainly hope and pray that you do have, you may not be able
to reveal to us those details today, but you do have that informa-
tion, and that in the process of assessing that, that you get to the
bottom to the degree to which we can of where that corruption is,
and that we as an Administration with the Attorney General tak-
ing a lead on this, along with the Secretary of the Treasury, make
some commitment to really get tough in our negotiations when we
deal with our friends, and they are, I think, our friends. At least
some of the leadership over there wants to be. But we have got to
change the way they operate, they have got to change the way they
operate, we can't do it alone. Obviously we need their cooperation.

But we also can't do it, and they can't do it if we don't show them
somewhat of the way and tell them that we aren't going to be able
to have the kind of economic relations that are desirous that we
have had up to this point in the future, if they are not going to
shape up their system and get rid of this corruption.

So I am very concerned that Justice is not carrying on as strong
a policy role in this as it should. Even though I know the hand is
out, it seems to me the carrot stick needs to be there, Mr. Robin-
son.

Mr. Robinson. I think that one of the things that PDD-42 and
the International Crime Control Strategy makes clear is that we
need to have this kind of close working relationship between the
intelligence community, the State Department, and the Justice De-
partment. We need to gather the kind of information you are talk-
ing about and make our assessments.

125

And I would certainly agree that we do have a serious concern
on the issue of the extent to which Russian organized crime groups
are involved in the Russian banking system. I think it does present
serious problems and things that we need to take a careful look at.

Mr. McCOLLUM. Thank you. Thank you, Mr. Chairman.

Chairman Leach. Thank you. Mr. Vento.

Mr. Vento. Thanks, Mr. Chairman. Mr. Robinson, thanks for
your testimony. I have looked over the summary of the legislation
that you have proposed. It didn't quite ask what the Chairman has
done, so I think we might want to try and reconcile some of that.

You noticed in my opening comments that I alluded to the fact
that we are dealing sometimes with bonds or with other types of
instruments. Do you feel that, in fact, those disposal of assets in
those particular circumstances, whether it goes to bonds,
annunities, real estate, do we actually track those as closely as we
do in terms of bank activities?

Mr. Robinson. I am not sure we have the regulatory mecha-
nisms to do in the same way, and that is why I think it is impor-
tant to address those mechanisms, and I share the concerns that
you have mentioned about the need to do that.

Mr. Vento. I expect a lot of it gets back to some sort of a wire
transfer to a bank, at least in terms of our nation, I don't know
globally if that is true. But the concern is that in the work that
you do, do you find that on occasions that if you are trying to trace
money that it actually goes in those directions?

Mr. Robinson. Absolutely. And I think the better capacity law
enforcement has to try to identify those things the better able we
will be able to do an effective job.

Mr. Vento. One of the issues, of course, is that we are concerned
that the specter of the IMF and World Bank that has been brought
up and what happens to the assets or resources that go into them.
There have been the discussion of tax evasion if various countries —
obviously, the focus of the tension today is Russia — capital flight.

Of course what you are talking about very often are assets and
resources through banks that result in criminal activity. I notice in
the convictions that you have had here, some is under the Hobbs
Act, which is sort of a shakedown of immigrants and of transport-
ing prostitutes from abroad, and going through some of these, some
of these are just not identified as just money laundering and this
Armenia issue that you raised.

But in tracking what you are working here on is pretty much the
illegally attained, you don't really make, there is no tracking of
IMF dollars? Is that a specific role that you have?

Mr. Robinson. A specific role of tracking IMF dollars?

Mr. Vento. Yes.

Mr. Robinson. Once they get to the Russia, you mean.

Mr. Vento. However you do it. I understand that, you know, that
dollars never get over there. According to the Secretary of Treas-
ury, they are just sitting in Washington, and I understand that, so
you have to — so I know you cannot do that, but I think that — is
there any specific role that you have in terms of indirectly trying
to determine — IMF dollars basically leverage a lot of other things
that go on in these nations in terms of credit. Is there any role or

co.fifiQ nn . s

126

monitoring role that we have, either as a nation or internationally
in terms of monitoring these dollars?

Mr. Robinson. Well, obviously from a law enforcement perspec-
tive, before we begin to open a criminal investigation, we need a
predicate, and so we are not out there searching around. But I do
think that the regulatory agencies and others, through the sus-
picious activity reports and other mechanisms, do provide early
warnings for those activities that ought to be looked at by law en-
forcement. And I think that is the kind of thing that we ought to
do and then investigate those thoroughly.

Mr. Vento. You know, you have some other issues that are going
on here. The capital flight is one, where assets are being taken out
of the country and deposited. I mean, these are concerns, because
if we, through our national policy are trying to support the IMF to
put dollars into Russia or other countries, we would like that those
resources to stay there insofar as possible to better the economic
and market goals that we have, to market oriented goals and some
social goals that some of us might have.

So we are concerned about issues of tax evasion, whether individ-
uals are not paying taxes in Russia or doing things which bar it —
which touch on evasion, but really with the laws you are looking
at pretty illegal activities within the United States, not necessarily
in Russia; is that correct?

Mr. Robinson. I think to a large extent. There are a few speci-
fied unlawful activities that involve foreign offenses as well, but I
think that the kind of work that is being done by the committee
to address the issue of expanding the number of specified unlawful
activities that would be included in the money laundering statute
would give tools to law enforcement that would enable us to really
go after these things in a significant way and help us, and that is
why our proposals address that.

I know the Chairman's proposals address it as well. And we are
looking forward to working with the committee to try to improve
these to the point where we can address these kinds of issues. We
are working in a very different world these days with regard to the
amount of activity that the Justice Department is engaged in that
has international implications. And this is one of a number of ex-
amples, and I think these statutes, which are intended to accom-
modate these changing dynamics, will be of great assistance to law
enforcement.

Mr. Vento. I mean it does involve monitoring, as we pointed out
yesterday in testimony, that Russia exports both as an example as
a country $80 billion worth of exports, so there is a lot of trans-
actions that take place, and short of having financial entities across
the board helping us with that and feeding us back the information
there isn't much hope — I mean we can't begin to be the police force
and law enforcement for Russia, can we?

Mr. Robinson. No, I think we have enough to handle here, but
we certainly need to interact with the consequences that occur
there that affect the United States both directly and indirectly.

Mr. Vento. It is sort of frustrating, I think it is like playing
catch with a kid that can't catch the ball, and he doesn't throw it
back to you, you know, it is kind of hard to do. And so I mean we
really need cooperation in order to accomplish this end. And I think

127

while we are concerned with illegal assets and illegal activities
here that there has to be an integrated policy with other nations
and banks.

I mean if we are willing to superimpose these requirements on
us and others are not — for instance, picking on someone like the
French, they tend to pick on us, so I shall pick on them — if they
don't cooperate, then it obviously dissipates in a different direction.
And even in the money laundering activity — or the capital flight,
we are probably only talking about 20 percent of the export dollars,
so it is not — there is still some good that comes out of what hap-
pens here. It is a question of whether we are moving in the right
direction, I think, here, not whether or not the system is perfect.

Mr. Robinson. True.

Mr. Vento. Thank you, Mr. Chairman.

Chairman Leach. Thank you.

Mrs. Roukema.

Mrs. Roukema. Thank you, Mr. Chairman.

In many ways, our questions have overlapped here. Certainly the
questions I have heard from my colleagues are central to the ques-
tions I have. But let me — hopefully without prejudicing or com-
promising your investigation, let me ask the questions the way
they have come to my mind. You heard me indicate in my opening
statement that the Chairman has introduced legislation and, of
course, the Treasury is going to have recommendations for legisla-
tion tomorrow.

But I am wondering, based on your experience and knowledge of
the international problem here, and unfortunately I don't think we
are going to find in the end that it is limited to Russia, there may
be a more worldwide problem than we currently understand.

The legislation that you know of, based on your experience thus
far, what do you think is most central to the need for criminal re-
forms? Are we closing the loopholes effectively in the legislation as
you know it?

Mr. Robinson. Well, I haven't had an opportunity to study the
Chairman's proposals that were offered up I think yesterday. But
I think that those are the kinds of things that we need to

Mrs. Roukema. Aside from that, excuse me, aside from the
Chairman's legislation, then what do you think we should focus on
as the top priorities for closing the loopholes based on your own ex-
perience?

Mr. Robinson. We have a variety of proposals. I think one of
those would be the extent to which in the money laundering area
the specified unlawful activities are broadened. It seems to me that
would be a significant assistance to us in law enforcement.

I have tried in my written testimony to discuss a variety of those
questions. But among the proposals would be to expand the list of
money laundering, predicate crimes, to include a variety of things,
including public corruption against foreign governments. And I
think these would increase the availability of money laundering en-
forcement tools to law enforcement; also broadening the definition
of a financial institution to include foreign banks, closing a loophole
that might exist there involving criminally derived funds,
laundered through foreign banks doing business in other countries.

Mrs. Roukema. You mean new definitions on that?

128

Mr. Robinson. Yes.

Mrs. ROUKEMA. And also what are those, the banks that are able
to get funds only from private payments and not include deposits
from their own local citizens; is that right?

Mr. Robinson. I think those kinds of issues are things that we
certainly need to address. Also toughening penalties for violations
of the International Emergency Economic Powers Act, the lEEPA.
There are a variety of specific things that we have discussed and
I think we will be continuing to discuss in terms of making these
kinds of improvements.

Mrs. RoUKEMA. Well, I would appreciate anything else that you
could submit to us for the record with specificity, not only about
our legislation, but based on your experience in various investiga-
tions as to how we close those loopholes, if you have anjrthing be-
yond your testimony.

Mr. Robinson. We would be delighted to do that.

Mrs. RoUKEMA. But it is also brought to my attention by staff
that in an Administration briefing recently for staff, there was an
indication that the most significant feature in the new strategy re-
garding money laundering is an agreement between the AG and
the Secretary of the Treasury to have their agencies work together
to combat money laundering.

That seems to be so elementary. Is there something more specific
that you are talking about as to how you work together and cooper-
ate with specificity that is not permissive or required under the law
now?

Mr. Robinson. I don't want to get ahead of the interference
again. But the answer is, yes, I think those details will be dis-
cussed tomorrow when this strategy is discussed by the Attorney
General and the Secretary of the Treasury.

Mrs. RouKEMA. Evidently it was not clear to some staff persons,
and just on the basis of the way they presented it to me, that
raised a question in my mind as well. So we will be looking at that.

Mr. Robinson. Good.

Mrs. RoUKEMA. All right. Thank you, Mr. Chairman.

Mr. Robinson. Thank you.

Chairman Leach. Thank you very much.

Ms. Waters.

Ms. Waters. Thank you very much.

Mr. Robinson, I have been reviewing your statement, and I am
particularly concerned about the laundering of drug money.

Mr. Robinson. Yes.

Ms. Waters. Coming from the Justice Department, you are
aware of our mandatory minimum laws and the fact that the pris-
ons are filling up with young people from inner cities, mostly mi-
norities, who for 5 grams of crack cocaine can get a mandatory —
a minimum of five years in prison, and the judge does not have any
discretion.

When I look at the laundering of drug money by our own domes-
tic banks, and I have reviewed the 105 or so prosecutions over the
past few years, I see that the fines have been given for some of
these banks, one fine as high as $25 million for American Express
International. I saw that Confia bank was on the list. That was one
of the banks that was identified in the Casablanca operation. That

129

was a known drug money laundering bank that was under pur-
chase at the time by Citibank.

We have "know your customer laws" that are basically ignored
by our own domestic banks. There are some reference to private
banking, nothing about concentration accounts, and no one has
ever lost a bank charter for laundering drug money. At the same
time we give long sentences to low-level street dealers. Without the
ability to realize the profits there would be no drug trafficking.
They couldn't spend the money. It just wouldn't happen.

What are you prepared to recommend? What get tough laws are
you recommending for banks, and do you include in that the loss
of a charter for banks that are convicted for the laundering of drug
money?

Mr. Robinson. I share the concerns that you have about the
need for effective prosecution, not only of individuals who commit
crimes, but financial institutions that commit crimes. I know that
this has been a subject of discussion. And I had the opportunity to
review and saw your testimony actually yesterday on this topic. I
think that you raise very legitimate points, and I think law en-
forcement needs continuous improvement in this area.

As you know, in the submissions that we have given to you by
one of my deputies and others concerning the work of the Depart-
ment over the past ten years in this area, there has been a good
deal of work, but that doesn't suggest that simply because there
have been 105 foreign and domestic banks and financial institu-
tions that have either been convicted of money laundering or penal-
ized

Ms. Waters. Excuse me, I don't want you to go any further.

Mr. Robinson. Yes.

Ms. Waters. That is the cost of doing business these days.

Mr. Robinson. I understand.

Ms. Waters. If you can keep doing business and you get fined
and you are making money, you will pay the fine. Are you prepared
for us to take away the charters of banks who launder drug money?

Mr. Robinson. I think in appropriate circumstances that if peo-
ple are engaged in criminal activity at that level, the forfeiture
laws and others ought to be considered. I guess the short answer
is getting tough in this area is appropriate.

Ms. Waters. Are you prepared to recommend the loss of a char-
ter under any circumstances where the laundering of drug money
is involved?

Mr. Robinson. I think yes under appropriate circumstances. The
answer ought to be yes.

Ms. Waters. Can you describe what kind of circumstance you
think would be appropriate to snatch a charter?

Mr. Robinson. I think if you had a financial institution engaged
in knowledgeable money laundering at the highest levels of the cor-
poration, that that was their business to engage in, that you didn't
have a situation in which there were mechanisms in place to pre-
vent this, where you have corporate compliance programs to see to
it — we do encounter situations in which people, because of the tre-
mendous economic advantages, get involved in this activity and
hide their activity from other people and the institutions. That

130

doesn't mean that the institution shouldn't pay, but I think we
have to look at these cases on a case-by-case basis.

And in an appropriate case, it seems to me, it would be appro-
priate to have the ultimate capital punishment for a financial insti-
tution with regard to that. I think it depends on the specific case.

Ms. Waters. Are you involved at all with the ongoing investiga-
tion of Citibank?

Mr. Robinson. I am familiar with it, yes.

Ms. Waters. But it is still ongoing? It has not been concluded
yet?

Mr. Robinson. I obviously can't comment on the specifics of the
investigation, however.

Ms. Waters. I just ask. Is it still ongoing?

Mr. Robinson. I think it wouldn't be appropriate to say anything
other than there has been no conclusion as I understand it and the
specific answer to the question, let me double-check and get back
to you.

Ms. Waters. Thank you.

Chairman Leach. Mr. Lazio.

Mr. Lazio. Thank you, Mr. Chairman.

I just want to get, if I can, some understanding of the structure
that is being used from a law enforcement point of view. Is it a
task force that has been assembled, an interagency task force on
the money laundering issue?

Mr. Robinson. Are you talking about a particular case or

Mr. Lazio. I will refer particularly to the Russian case.

Mr. Robinson. The Bank of New York case, or whatever you
want to call it? As I indicated

Mr. Lazio. I presume it is broader than just Bank of New York.

Mr. Robinson. Yes. As I indicated in my opening remarks and
in the testimony that was submitted, the matter is being handled
by the United States Attorney's Office for the Southern District of
New York working with agents with the FBI field office in New
York in conjunction with agents from the IRS and other regulatory
agencies in coordination with the Organized Crime Racketeering
Section of the Criminal Division at the Justice Department.

To the extent that additional resources are deemed to be nec-
essary, those resources, I think, will be assigned if that answers
your question.

Mr. Lazio. Not completely. In other words, is it a collaboration
right now in sort of an institutionalized way with Treasury? Is
there a collaboration in some type of institutionalized way with our
intelligence services?

Mr. Robinson. Yes.

Mr. Lazio. In this task force?

Mr. Robinson. Yes, the answer is yes.

Mr. Lazio. And Treasury has FinCEN organization. Is that di-
rectly involved as a representative of

Mr. Robinson. What I wouldn't want to do is describe in great
detail, in any more specifics than I have in the testimony, the spe-
cific configuration of the investigation.

Mr. Lazio. I am interested in whether FinCEN has been
proactive and has been effective from a law enforcement standpoint
and whether it is frankly worthy of additional scrutiny, and so I

131

will ask you this directly. How would you characterize up until
today, because I understand there will be an announcement tomor-
row, how would you characterize FinCEN's role in money launder-
ing in general and in this particular case in particular?

Mr. Robinson. Well, let me add, sir, that FinCEN is a very im-
portant tool and I think it does a very effective job and works coop-
eratively with the rest of Federal law enforcement. And I think it
has a very important role in money laundering investigations, and
the continued cooperation between all of these resources in the
Federal Government will be essential to do an effective job.

And I think they have been effectively engaged. Their resources
are well-known to the rest of the law enforcement, and I think that
obviously under the topic of continuous improvement, there always
needs to be continuous improvement. But I think there has been
good cooperation between Treasury and Justice with regard to
these matters.

Mr. Lazio. Yesterday we heard testimony from Fritz Ermarth,
who is a former CIA official who headed the Russian — I guess chief
Russian analyst. And he testified as to almost a culture, and that
is my word, I don't think it was his, but a reference to the pressure
not to pass on bad news to superiors, that intelligence would be
gathered, but there would be a sense that people at the upper ends
just did not want to hear it, because they were pursuing a strategy
that was an announcement to some of this bad news.

Have you had any experience with that? Had you heard of other
people in American law enforcement who have expressed a concern
about that?

Mr. Robinson. I have not, although I did see some of the hear-
ings last night. The Justice Department thrives on bad news. We
are supposed to investigate it and so the extent to which we can
get information indicative of the possibility of criminal activity,
that is part of our job to look for that information, make a deter-
mination as to whether the predicates are there for the possible
violation of United States law and conduct a thorough investiga-
tion.

Mr. Lazio. OK. You also know, and I say this as a former pros-
ecutor myself, not everything that is uncovered ends up being
criminal. There is essential information that sometimes needs to be
passed on so that polic3anakers can make informed decisions.

Mr. Robinson. True.

Mr. Lazio. So my question is to you, did you ever experience or
hear of anybody who ever experienced a disinclination to pass on
information to higher-ups, because it didn't fit in with the strategy
that was being pursued from a political standpoint?

Mr. Robinson. I haven't, but obviously my period of most recent
involvement in this topic is about fourteen months since my ap-
pointment to this position last June.

Mr. Lazio. Thank you very much, Mr. Chairman.

Chairman Leach. Thank you.

Mr. Bentsen.

Mr. Bentsen. Thank you, Mr. Chairman.

Mr. Robinson, in your testimony, you talk about, on page 7, you
talk about the increasing frequency of suspicious financial trans-
actions. And you talk about prosecutions under Sections 1956 and

132

57 of Title XVIII, and 5324 Title XXXI, and on the following page,
you list the charges that have been brought. It shows an increase
in fiscal years 1996 through 1998.

How does this compare to the previous three years? Has there
been a pretty substantial step-up in the number of charges
brought, and is this both domestic and international related?

Mr. Robinson. These would include all prosecutions under these
sections. And I will be glad to get the information on the years pre-
ceding. But I would anticipate that we will see this number in-
crease as we go forward.

Mr. Bentsen. So the various U.S. Attorneys out in the field have
been stepping up their activity based on the data that you showed
here at least in the last three years.

Mr. Robinson. I think that is true. And my understanding is
that these numbers have been relatively consistent over the last
five or six years. But we will double-check the specific figures.

Mr. Bentsen. That would be helpful. Later on in your testimony,
you reference the International Crime Control Act of 1998, a pack-
age of more than 50 new legislative measures to help us fight inter-
national crime and implement the objectives of the international
crime control strategy.

Now, apparently that passed the Senate, but was never taken up
by the House in the last Congress, according to your testimony.

Mr. Robinson. My understanding is that is correct.

Mr. Bentsen. Was it ever taken up by the Judiciary Committee
in the House, do you know?

Mr. Robinson. Pieces of it have, as I understand, but not the en-
tire package.

Mr. Bentsen. Otherwise the Senate acted, but the House did not
act. Would this be a helpful measure for U.S. Attorneys in the field
and for the Justice Department and the international efforts to
combat money laundering and organized crime infiltration of the
Nation's financial system?

Mr. Robinson. We believe it would be.

Mr. Bentsen. There have been questions raised, and certainly
raised to me primarily from the media, and there have been a
number of reports in the media that the Bank of New York is en-
demic of a situation where high levels in the Clinton Administra-
tion have turned a blind eye toward organized crime and corrup-
tion in Russia for furtherance of other goals, and some have said
in the case of the Bank of New York, the blame lays at the door-
step of the Vice President, because of being the point person on
U.S. relations with Russia.

My question to you would be, what is the standard operating pro-
cedure involving an ongoing criminal investigation within the Jus-
tice Department and notification? From testimony given yesterday
by Secretary Summers, the Treasury policy officials were notified
in April of this year, although, if I recall correctly, FinCEN officials
at Treasury were engaged with the FBI and with Justice and the
U.S. Attorney's Office in the Southern District of New York on this,
as you would expect.

But, would it be appropriate or inappropriate, in your opinion,
for this to be an issue to be taken up to the high levels of the Ad-
ministration so it could be used in negotiations, say, with a Rus-

133

sian prime minister, of concern within the Administration with re-
spect to corruption, or would an ongoing criminal investigation be
something that we would prefer to keep under wraps until a deci-
sion can be made whether or not to bring charges or pursue a pros-
ecution?

Mr. Robinson. Well, we start with the proposition that we prefer
to keep criminal investigations confidential for some of the reasons
I identified in my opening remarks and I articulated in the written
statement that I made. In addition, there are specific legal con-
straints with regard to sharing information, particularly grand jury
information under rule 6(e) of the Federal Rules of Criminal Proce-
dure. There are specific prohibitions on the sharing of grand jury
information.

Having said that, increasingly these days and at the point that
probably didn't exist, certainly didn't exist when I was a United
States Attorney twenty years ago, because of the internationaliza-
tion of criminal activities and the extent to which the Justice De-
partment comes across information in the course of our efforts,
there are situations in which we could come across information
that is so important to the national security or foreign relations of
the United States that it would be deemed appropriate to provide
limited information, and so we have a process within the Depart-
ment to try to flag that kind of information.

Each United States Attorney's office was advised and has been
reminded that, if during the course of investigations information
comes to their attention of this type, we have to have a careful
process of determining under what circumstances it rises to a level
where it is appropriate, that it affects national security, that there
ought to be notification to policymakers.

So we would raise the matter up to the Attorney General, and
a determination would be made as to the extent to which it would
be necessary to share that information. So that is the process that
is utilized, and it is a careful, I think, process that is designed to
protect the integrity of the investigation while still not sitting on
something that could affect the vital national security interests of
the United States.

Mr. Bentsen. With the Chairman's indulgence, based upon that,
as a former U.S. Attorney and a high-level Justice Department offi-
cial now, would it be in your opinion productive or counter-
productive for information regarding an ongoing investigation to be
divulged in international contacts; that is, for our negotiators with
the Russians to bring up that, oh, by the way, we are investigating
potential money laundering activities through a certain U.S. bank,
we think this is a problem that you should be aware of and you
should be addressing, or would that be counterproductive or pro-
ductive to your ongoing criminal investigation?

Mr. Robinson. Well, obviously, I wouldn't want to comment on
the specifics or even a hypothetical basis. Let me say the answer
this way, obviously — to the extent, we conclude through this proc-
ess that there is information vital to the national security interests
that needs to be shared with people that are engaged in carrying
out that policy on behalf of the United States, the point at which
those policymakers, based upon a much larger role and responsibil-
ity for foreign relations and other things, determine how to use it

134

is something that I think that they would have to determine. Obvi-
ously, we would prefer that any disclosures be only as necessary so
that we can continue to protect the equities that I outlined in my
written testimony and stated here.

Mr. Bentsen. Thank you.

Thank you, Mr. Chairman.

Chairman Leach. Thank you.

Mr. Royce.

Mr. Royce. Thank you, Mr. Chairman.

Part of our responsibility

Chairman Leach. Could you hold just a second, Ed. Do you want
a parliamentary inquiry?

Ms. Waters. I would like to submit my statement for the record.

Chairman Leach. Mrs. Waters has a unanimous consent to sub-
mit her statement. Without objection, so ordered.

Mr. Royce.

Mr. Royce. Thank you, Mr. Chairman.

One of our responsibilities here is to get at the facts. And one
of the witnesses that we heard yesterday passed on the following
observation: he says officials of one of our closest allies told him
last spring that they are now monitoring their local Russian orga-
nized crime problem very closely. And they say, further, 80 percent
of the funds through Russian organized crime entering their coun-
try first come into the United States; that they are laundered
through the U.S.; and of those funds from the U.S., they say 60
percent arrive from the City of Boston. However, when they ask
U.S. police to provide information on the ownership of those ac-
counts, it takes six to eight months to receive sketchy data.

Further, the Russians close and change those accounts every six
months. However, our allies are being assured that Boston has no
Russian organized crime problem.

Now, he says he will give us the names of policemen there that
are willing to indicate differently. This is the question that we have
been bringing up now. The Chairman held a hearing in June of
1996 where we brought up this same set of issues, and I guess part
of the concern that we have is not what Justice is going to do to-
morrow, when you lay out a new program; the question is, what
has been done over the last couple of years over a problem which
is very serious?

We have Duma members that come to us and in our offices and
tell us, it is time for the legislature and the Duma to begin to work
together on this information, because there is not enough being
done in their administration or in our Administration in terms of
investigating money laundering.

The Russian delegation that was just here last week that met
with you, they met with the Justice Department, returned to Mos-
cow and said that they had not been shown any evidence that there
was a legal problem with the Bank of New York.

Now, is this what we call cooperation? I mean I would just like
your response on that.

Mr. Robinson. Well, we do require their cooperation, and there
were meetings and there will continue to be meetings, not only
with this group, but with other countries. We have mutual legal as-
sistance treaties that have been outlined in my written testimony.

135

In the Office of International Affairs in the Criminal Division, we
have people who work on a daily basis with our partners through-
out the world. The FBI, DEA, and other law enforcement agencies
have legal attaches. One of the things we are obviously expanding,
because of the growth of international crime is the need to have
people in place dealing with these different laws and different sys-
tems in creating the kind of relationships where the shared infor-
mation can occur to have mutual assistance between our two coun-
tries.

We obviously have to do it with some care with regard to what
you share under what circumstances, what guarantees do you have
that by sharing the information it is not going to be inappropriately
used, and that means building the kinds of partnerships. And I
think that the meeting that we had last week was helpful, the rela-
tionships the FBI legatts have throughout the world. There are, as
I indicated in the testimony, I think, 32 or 33 countries in which
we have FBI legatts. And that needs to continue to improve.

Mr. ROYCE. Be mindful of the fact it is the Duma that has passed
a series of laws to make money laundering a crime in Russia, all
right? Those have been vetoed by their administration. They are
trying to get a signature on a law to make it a crime in Russia.
They come here and meet with you to investigate this issue of
money laundering with respect to these funds that went through
the Bank of New York.

They then return and have to say, "Well, we have been given no
evidence, no information." I am just reporting to you, because we
are hearing from delegations, from the Russian Duma, that indi-
cate they are very upset with the amount of money laundering that
has occurred in their country that has gone out of their country.
They suspect a lot of it is going through banks here in the United
States and then into the Caribbean, and so forth.

And they are trying to get to the bottom of this. We are trying
to get a signature, I assume, from President Boris Yeltsin of Russia
on a bill to in fact make this a crime, and it would just be helpful
if there was some cooperation with the Duma members. And they
are telling us they are not getting that cooperation from more than
one member of the Duma by the way.

Mr. Robinson. I think that the cooperative relationship between
U.S. law enforcement and Russian law enforcement is there. I
think that there is a good relationship. I think the meetings we
had were productive, and I think there will be further meetings be-
tween law enforcement, to law enforcement with regard to sensitive
information, and that exchange needs to occur.

We also made the point during the meetings that we thought it
was very important for the money laundering statute in Russia to
come into place. And we had a discussion about that, had a copy
and translated it, the veto message. And we are taking a careful
look at that and urged them and made the point that we felt that
money laundering statutes are critical here and would be very,
very helpful and important in Russia as well.

Mr. RoYCE. It would be nice with all the aid we have given Rus-
sia if we would have at least leveraged that signature on that bill
instead of the continued vetoes that we have gotten out of the Rus-
sian administration. But I thank you for your testimony.

136

Mr. Robinson. I agree with you.

Mr. ROYCE. Thank you, Mr. Chairman.

Chairman Leach. Thank you.

The gentlelady, please.

Ms. Lee. Thank you, Mr. Chairman.

Mr. Robinson, you indicate this in your testimony, that there are
very Umited foreign offenses under the money laundering statute,
you mentioned on page 4 trafficking in narcotics, murder, kidnap-
ping, robbery, extortion, destruction of property by means of explo-
sives and fraud against a foreign bank, OK. Because they are very
limited offenses, is it safe for us to assume that there are or have
been other instances of money laundering from other countries,
other than Russia, that for whatever reason has not been exposed
nor investigated, because of the lack of statutory requirements, is
this really just the tip of the iceberg?

Mr. Robinson. This problem is not a problem that is limited to
the situation that we are talking about here today with Russia. We
see it with other countries. We see it in a whole host of situations
in our narcotics investigations and the like. So the topic of inter-
national money laundering is a topic that spans the globe and will
continue to be a subject that we have very serious concern for law
enforcement.

Ms. Lee. But how do you decide when to prosecute and when not
to prosecute, given the very minimal statutory authority that you
do have?

Mr. Robinson. Well, obviously, we are bound by the statutes
that exist, and so to the extent that we have specific credible evi-
dence that we can find a violation of United States law as it cur-
rently is configured, and understanding that our standard in the
United States is to convict people beyond a reasonable doubt, we
conduct those investigations and where we have the evidence, we
bring the charges.

Ms. Lee. Can you, just for my own information, indicate where
there have been other instances of money laundering that would —
I won't say rise to the level of this investigation, but would be a
serious investigation that you have conducted or

Mr. Robinson. Why don't I do this, rather than try to talk off
the top of my head on this, is try to get back with specific informa-
tion for you to supplement my testimony.

Ms. Lee. OK, thank you very much.

Thank you, Mr. Chairman. Thank you. I yield back the balance
of my time.

Chairman Leach. Mrs. Jones.

Mrs. Jones. Thank you, Mr. Chairman.

Mr. Robinson, I did not arrive at the time you began your testi-
mony. Would you repeat for me what your current position is,
please?

Mr. Robinson. I am the Assistant Attorney General for the
Criminal Division of the Justice Department. I was appointed last
year and took office June 22nd of 1998.

Mrs. Jones. To whom do you report, sir?

Mr. Robinson. I report to

Mrs. Jones. Directly report?

137

Mr. Robinson. I report to the Attorney General of the United
States through the Deputy Attorney General of the United States.

Mrs. Jones. Who is your deputy?

Mr. Robinson. Eric Holder.

Mrs. Jones. I just wanted to understand the relationship. And
prior to serving in this position, what did you do?

Mr. Robinson. I have been a lawyer for 30-some years. I was a
partner in a major law firm in Detroit where I headed the litiga-
tion department for many years. I was the United States Attorney
for the Eastern District of Michigan in the Carter Administration.
And for five years immediately before assuming my current posi-
tion, I was the dean and a professor of law at Wayne State Univer-
sity Law School in Detroit, Michigan.

Mrs. Jones. Close to Ohio?

Mr. Robinson. Yes.

Mrs. Jones. OK. My background and experience is a former DA
and a former judge. I sat here listening to the testimony yesterday,
and I am sure you heard it over the television. It is very easy to
sit here and speculate about what testimony is admissible or what
isn't in a courtroom or to speculate and say hearsay, but you can't
use that in a trial in a courtroom. Is that a fair statement, sir?

Mr. Robinson. As it turns out, my principal area of scholarly at-
tention is evidence and so I taught evidence for many years, and
I have written a couple of books about it. And there is no doubt
that there is a difference between hearsay, rumor, speculation, in-
nuendo and what you can get into court.

Mrs. Jones. For representatives of the Duma to go back to Rus-
sia and publicly say that they have not had cooperation from law
enforcement in the United States when they come over to complain
makes for great television stories, doesn't it?

Mr. Robinson. I am not sure how the press plays it.

Mrs. Jones. Or the press.

Mr. Robinson. I don't know.

Mrs. Jones. Now, yesterday we also heard testimony that privat-
ization of Russian banks cause the flow of funds from Russia to
other countries, therefore, the United States should be responsible
for the money laundering dilemmas in Russia as a result of push-
ing for privatization.

Have you found any evidence of that particular fact that would
cause us to proceed with money laundering claims in this country?

Mr. Robinson. Well, let me separate out a couple of things. I
have seen the information that these privatization issues have re-
sulted in a fair amount of capital flight out of Russia, some of
which, as I indicated in my testimony, may be perfectly legitimate,
and not a violation of any United States laws, some of which may
constitute money laundering within the meaning of our statutes
and each, of course, would require a very careful analysis of the
transaction, identifying the source, determining whether the source
was based upon a specified unlawful activity. This is a careful proc-
ess that has to be built together before obviously anyone can be
charged with violating Federal criminal law.

Mrs. Jones. Just for the fact that money flows from Russia out
to other countries does not necessarily mean it is as a result of any
criminal activity?

138

Mr. Robinson. Certainly not necessarily a violation of United
States criminal laws; whether it might or might not violate Rus-
sian laws is another matter. If it was to be sent out, for example,
to evade Russian taxes or otherwise, but that is speculation.

Mrs. Jones. Would it be fair to say that a good analyst or inves-
tigator, even if he had the feeling that the higher-ups thought that
some information should be one way or the other, but if he or she
was doing their job, they are obligated to provide good news and
bad news?

Mr. Robinson. I would assume that every manager wants all the
information whether it is good or bad. I certainly do in my job, and
I would assume others want all the information as well.

Mrs. Jones. And the bad news is the news that could sting you
in the behind in a courtroom if you didn't have it once you got to
a courtroom on a particular case or analysis; is that a fair state-
ment?

Mr. Robinson, In a courtroom or before a congressional hearing
or wherever.

Mrs. Jones. Finally, Mr. Robinson, is it a fair statement to say
that in the course of being a criminal — excuse me, an Assistant
U.S. Attorney or an assistant U.S. Attorney Greneral, you provide
not only civil, but also criminal advice to agencies in the United
States; is that correct?

Mr. Robinson. Certainly the Justice Department.

Mrs. Jones. The Justice Department does. And there comes a
time at some point wherein you may be providing civil advice to
an agency and someone in the Criminal Division would be provid-
ing criminal advice, and at some point it may be required that in
order to be giving good advice civilly, some information may have
to be provided criminally that would not necessarily impair an in-
vestigation?

Mr. Robinson. It sounds possible in the abstract, yes.

Mrs. Jones. In fact, in reality, it could well happen as well?

Mr. Robinson. Sure.

Mrs. Jones. Thank you very much, Mr. Chairman.

Chairman Leach. Thank you. Judge Jones.

Mr. Capuano?

Mr. Forbes. Mr. Forbes.

Chairman Leach. Mr. Forbes. Excuse me, I am looking the
wrong way, I apologize.

Mr. Forbes. Thank you, Mr. Chairman.

Thank you, Mr. Robinson, for your patience and for being here
today. I think your information has been extremely informative,
and as the newest Member of the Banking Committee and a Mem-
ber from New York, I can tell you that I have great interest in this
issue. And thank you again.

Is it correct for me to assume, based on what I have heard here
this morning in your statements and your responses, that the ef-
forts by organized crime in various foreign nations, Russia and
other nations, that the laundering of money in the United States
is pervasive?

Mr. Robinson. I think that is fair to say. We may not be the
most pervasive, but certainly it is a serious problem that requires
law enforcement attention and regulatory attention, I think.

139

Mr. Forbes. May I also assume that given your testimony, that
the limited number of offenses that would qualify under the money
laundering statute somewhat tie the hands of the Department of
Justice to get at this problem?

Mr. Robinson. I think there is no question, but that we could
use some expansion of the statute specifically with regard to the
specified unlawful activity predicates within the money laundering
statute, yes.

Mr. Forbes. The revelation, the recent revelations on one finan-
cial institution, its unfortunate involvement with money launder-
ing, only really suggested — you can correct me if I am wrong, but
I got the sense and I don't think you have had a chance to complete
your statement — but, when my colleague Ms. Waters mentioned
ways of getting financial institutions to perhaps be more aggressive
in their oversight of money laundering, were you about to mention
that there were 105 financial institutions that in one manner or
another had been involved, albeit not of their own knowledge, but
it came to light that they were involved or their personnel were in-
volved unwittingly in money laundering?

Mr. Robinson. Yes, we have submitted some information with
regard to that. Some may be mentioned in the attachments to my
testimony, yes.

Mr. Forbes. So it is about 105 institutions though?

Mr. Robinson. We are talking about investigations and prosecu-
tions over the last ten years, I think is what the matter related to.
There were earlier hearings on this subject and one of my deputies,
Mary Lee Warren, who supervises, among others, the Asset Forfeit-
ure and Money Laundering Section within the Criminal Division
and also the Narcotics Section, testified here, and then following
that there was a submission of some additional information. We
would be happy to make it available to you as well.

Mr. Forbes. Thank you. Is it your sense that the financial insti-
tutions take a more passive role toward the money laundering
problem, or are they taking a more aggressive role?

Mr. Robinson. I think hearings like this are causing everybody
to devote a greater degree of attention to these matters. And I
think that that will ultimately inure to the benefit of law enforce-
ment as we can identify situations that warrant a careful scrutiny.

Mr. Forbes. I guess more to the point, and perhaps some of this
will come to light tomorrow when there is an announcement by the
Attorney General and by the Treasury Secretary, but generally, as
I understand it, beyond the statutory requirements that banks
have in looking for suspicious transactions, has there been an effort
in the last month or so, or a couple of months, particularly with
the latest revelations, to get more aggressive and get the banks to
be more aggressive in their approach to this problem?

Mr. Robinson. I would like to think that everyday we get a little
more aggressive, but I wouldn't limit it to the last month or so, but
the efforts in this area have been increasing over a period of time
and I expect will continue to increase as we have a greater appre-
ciation for this problem.

Mr. Forbes. And finally, if I may, has the Department ap-
proached the Hill in trying to get these money laundering statutes

140

adjusted so that your hands are no longer tied in the manner I
think that you suggested?

Mr. Robinson. There have been proposals and this committee, I
might say, has been very helpful to law enforcement in assisting
us to make improvements in the statutory tools that are available
to law enforcement.

Mr. Forbes. The Department itself has made those recommenda-
tions?

Mr. Robinson. We have.

Mr. Forbes. Thank you.

Thank you, Mr. Chairman.

Chairman Leach. Thank you, Michael, and let me extend a for-
mal welcome to you on the committee, and we are grateful for your
contribution.

Mr. Forbes. Thank you. Thank you very much.

Chairman Leach. Mr. Goode.

Mr. GrOODE. Thank you, Mr. Chairman.

In your statement, you said organized crime in Russia covered a
wide array of activities. Just ballpark percentagewise, how much is
protection rackets protecting people would you say?

Mr. Robinson. I would be reluctant to put a percentage. It has
been identified as a very serious issue, I think, in Russia. There
has been a lot written about this. There has been a fair amount
of the classified information, which you can't talk about, but there
has been a fair amount of discussion about this problem in Russia,
and I think it is a serious problem.

Mr. GoODE. Would it be fair to say that it is far greater now than
it was when the Communists ruled Russia in the 1960's?

Mr. Robinson. That is my impression. I don't offer myself up as
an expert on those particular matters, but it is obviously something
we are spending a lot of time on. But that is certainly my impres-
sion.

Mr. GoODE. To jump to a tangent area, the tax. What kind of
taxes does a business person pay in Russia now?

Mr. Robinson. I would have to double-check.

Mr. Goode. Do you have any income factor?

Mr. Robinson. I do know there is a very substantial amount of
evasion of taxes. My understanding is that the rate of taxation is
reasonably high, and there are substantial incentives as a result
for people to either engage in transactions that avoid the scrutiny
of the taxing authorities in Russia or simply to try to avoid taxes
altogether. I know it is a serious problem that has been recognized
in Russia itself that needs to be addressed.

Mr. GrOODE. Do they usually now focus more on sales tax type
taxes or income type taxes?

Mr. Robinson. I would be reluctant to offer an assessment with-
out getting back, because I don't think I have gone into the detail
of what their tax system is at this juncture. But we would be glad
to try to do that for you.

Mr. GoODE. Well, do the criminal elements help those businesses
that pay protection to avoid taxes? Is it a twofold thing? In other
words, I am going to protect you from some bad guys, but I am also
going to help you in avoiding paying your share to the government?

141

Mr. Robinson. I would not at all be surprised by that, but as I
say, our concentration here, and there are others who would prob-
ably be in a better position to offer the right answers to your ques-
tions, is domestic law enforcement violations here. Many of those
things that are happening there, we are seeing the consequences
on our shores and in the Justice Department, our primary atten-
tion is the violation of U.S. laws.

Mr. GOODE. Well, with regard to the United States and the influ-
ence here, are the organized criminal elements trying to work with
established criminal elements in this country or are they trying to
set up something apart from?

Mr. Robinson. We see a little of both, actually. We have seen
some cooperation between some of these groups and traditional or-
ganized crime groups in this country and some independent activi-
ties as well.

Mr. GoODE. All right. And I yield back, Mr. Chairman.

Chairman Leach. Thank you, Mr. Goode.

Mr. Barr.

Mr. Barr. Thank you, Mr. Chairman.

Mr. Robinson, I was reviewing your testimony here, including
your references to the current money laundering statutes and what
you see as their limited applicability to international cases such as
the ones that we are talking about here today involving Russian or-
ganized crime and money laundering. Are there any offenses, any
provisions of the U.S. criminal Code that would, other than the
money laundering statutes, that might be able to be used by our
prosecutors for offences involving money that is diverted or fraudu-
lently used; that is, that goes through the IMF, other than simply
the money laundering statutes?

Mr. Robinson. Well, there is certainly the fraud statutes — bank
fraud statues, and variety that could be looked at in the context of
specific facts. So money laundering is one of the tools, but there
may be other fraud statutes that could be utilized, conspiracy and
fraud statutes that could be utilized depending on the facts devel-
oped.

Mr. Barr. Because I know if we look at problems with misuse
of Federal fiinds domestically, I know there are ways to directly at-
tack funds that are misused or not used in accordance with statu-
tory provisions on grants and so forth that go through domestic
agencies and are used domestically, certainly.

Mr. Robinson. And also, as I am sure you know from your prior
work in the criminal justice area, that the interstate transportation
stolen property statute and others might also provide a vehicle for
being used in appropriate circumstances.

Mr. Barr. Are attorneys at the Department, or in particularly
U.S. Attorneys' offices that might have jurisdiction over these par-
ticular type of offenses, are they looking at those statutes and the
possibility of bringing cases? In other words, being imaginative,
using current Federal statues while we are waiting, and hopefully
we can adjust some of these statutes to put more teeth in them as
you have recommended, as others have recommended — rather than
just wait for that to happen, are your prosecutors right now, as we
speak, looking at different ways that they might be able to get at
this if there are, as we certainly suspect, millions and millions of

142

taxpayer dollars that have been diverted from legitimate uses pro-
vided by Congress and intended by the President, or are we just
sitting back and sort of waiting for new statutes?

Mr. Robinson. I think you are exactly right, imaginative exam-
ination of all of those statutes is going on. We would expect that
to go on. I am sure you would expect that from your experience,
and we expect it here as well.

Mr. Barr. We certainly hope so. One area that is of concern to
a number of us is you have indicated these cases are very, very
complex. Even among money laundering cases, these are more com-
plex, because of the international institutions involved and the
international nature of them generally. Does the Department have
training programs in place now for equipping prosecutors and
agents with the tools they need to level the playing field with re-
gard to these criminal enterprises or do you need to develop some
additional or new training programs in light of the complexities of
these cases?

Mr. Robinson. I think we need to continue to do that. We have
those programs in place. We have international coordinators now
in the U.S. Attorneys' offices. As I said earlier before you were
here, there has been a sea change since I was the United States
Attorney in Detroit twenty years ago to the kinds of issues that are
being confronted in these days by our prosecutors throughout the
Federal system, and I think we need to do continuous work in get-
ting our Assistant United States Attorneys and Federal prosecu-
tors, as well as the investigators, fully trained with regard to the
new technology that is being used and new activities that are oc-
curring really internationally these days.

Mr. Bark. Thank you. I would urge you to move forward on that
as quickly as possible and also to really push these prosecutions,
because there is an awful lot of money at stake here for the Amer-
ican people.

Mr. Robinson. Thank you.

Chairman Leach. Thank you, Mr. Barr.

Well, let me just conclude with two questions. One I am not sure
you will be able to answer and the second may be rhetorical. First,
is the Justice Department looking into the possible diversion of
IMF funds in any of the cases it has under review?

Mr. Robinson. The entire matter of the investigation, there
aren't any limitations on it. The investigation is going to be done
thoroughly and carefully and carried to wherever it may go without
any limitations at all.

Chairman Leach. Second, and this may be rhetorical, have you
been in close consultation with Justice authorities and legal au-
thorities and banking authorities in the Cayman Islands and re-
ceived good cooperation from them in your investigation?

Mr. Robinson. I think the answer is yes, that there has been.
This is going to be increasingly important for us to engage in, par-
ticularly in places where we have concerns about offshore financial
institutions that are putting money beyond our reach. That is a
challenge for us, and we need to continue to follow up on it.

Chairman Leach. I raise this for the following reason, just so
that you understand. A few months back, the Federal Reserve of
the United States intervened and helped assist an American incor-

143

porated institution called Long-Term Capital Management, involv-
ing funds, however, that were chartered in the Cayman Islands.
And I asked the Chairman of the Federal Reserve Board if he had
of course consulted with the Cayman monetary authorities before
making this decision to save Cayman funds, and this was a rhetori-
cal question, which of course he had not.

But the point I would raise is that we have developed a system
in the world where some countries establish laws that are designed
to defend the lawless. And so one of the great questions we have
as a country is how do we disincentivize people using those coun-
tries, and I would like to make it very clear if the Justice Depart-
ment does not get full cooperation from countries like the Cay-
mans, clearly the Congress is going to have to move in directions
to disincentivize that kind of country from being utilized. And I be-
lieve that that is something we ought to be looking at seriously,
and I would be looking at constructive advice from the Justice De-
partment in that vein.

Well, let me just conclude by noting that sitting behind you is
Mr. Mark Richard, who is a longtime Justice Department employee
who is moving on to a new assignment. We want to wish him well
in his new assignment as we wish you well in your current assign-
ment. Thank you very much.

Mr. Robinson. Let mc just say as a footnote to that, Mark is
going to be in Brussels, still with the Criminal Division, and I
think it is symptomatic of the fact of the required reach of our
international law enforcement efforts that Mark will be working
with the European Union and working with our offices abroad in
trying to deal with the very complexities of the kinds of things we
have been talking about at this hearing.

Chairman Leach. Well, thank you very much, Mr. Robinson.

Mr. Robinson. Thank you.

Chairman Leach. I would like to ask now our second panel,
which is also a one-person panel, to come forward. Our second wit-
ness today is Mr. Yuri Shchekochikhin, who is a member of the
Russian Duma and an editor of the Moscow paper called Novaya
Gazeta. We welcome Mr. Shchekochikhin who is violating two nor-
mal precedents of the Congress; that is, we normally do not invite
foreign witnesses and particularly foreign government witnesses.
We are particularly appreciative that you have agreed to come, and
normally we do not invite members of the press as witnesses. You
happen to be a member of the first and fourth estates in terms of
an American term of art.

Mr. Shchekochikhin's newspaper has been a leading reporter of
certain issues of corruption in Russia, and for that reason we want-
ed to invite his perspective before the panel. Mr. Shchekochikhin
is joined by an interpreter, and we invite him to proceed as he sees
fit. Welcome.

STATEMENT OF YURI SHCHEKOCHIKHIN, MEMBER OF THE
RUSSIAN DUMA, EDITOR OF MOSCOW NEWSPAPER, "NOVAYA
GAZETA"

Mr. Shchekochikhin. Thank you, Mr. Chairman, and Mr. Chair-
man, Members of Congress, my English is not good enough for so
serious a report, and I ask Natasha to help me to translate.

144

Chairman Leach. Of course.

Mr. Shchekochikhin. Mr. Chairman, I would like to thank you
for this invitation to participate in the hearings, which I am sure
will play a major role in our joint struggle against corruption and
in Russian-American relations. Although, both yesterday and
today, I felt as if I were at a meeting of the Russian Ministry of
the Interior. I heard the same names and the same numbers, al-
most as if I were at home.

I am a member of the Committee on Security and a member of
the Committee on Struggle with Corruption, and I represent the
Yabloko faction in the Duma. At the same time, I am Deputy Edi-
tor of the newspaper Novaya Gazeta, New Gazette. It is a weekly
which has a circulation of about half-a-million. Unfortunately, the
investigations we do are sometimes more effective than the inves-
tigations done by the government. At least three Vice Premiers had
to resign after publications in our newspaper. However, the new
ones who came were no better than the old ones, but that is our
life today.

Yes, it is our life where corruption has become the main stum-
bling block to development in our society. The public is firmly
aware of the concept, "the family" now, and by that we mean not
only the president and his immediate family, but the people sur-
rounding him.

As the leader of our faction, Grigory Yavlinsky said "You can see
the same thing only in Indonesia." A day doesn't go by that our
press does not mention the name of the dark genius, Boris
Berezovsky. The President of Sibneyts, Rajnnond Mabrovich, who
is called head treasurer of the family. By the way, it was our news-
paper that has found criminal action, and based on this case, he
should be in prison right now and not in the Kremlin.

Another hero of our times, the President of the bank Unicom,
Ashor Ygadzon, who managed to steal about a million dollars from
an organization Rosvooruzheniye, Ross Armaments, but this was
the man who organized the provocation against Skuratov, the At-
torney General, and another ten or dozen names which defined the
life in our country.

I am sorry that I could not prepare a written statement for these
hearings, but there were reasons for this. Right before my trip to
Washington, 24 hours before the trip, I returned from Dagestan,
where there are new Caucasus wars taking place. Local residents
openly called this war a money war, and even the eagles of the
mountains know the name Bidirovsky. There I had occasion again
to be convinced that corruption is not only an evil, but it also leads
to the loss of life of innocent people and bloodshed, but these are
all our problems.

I am thinking about something else, why today money launder-
ing in Russia has become such an important issue here in the
United States. The constant publications and the press here and
releases remind me of a bombing attack. All of this happened a
long time ago. America knew about this. Why only today? I want
to warn you about coming to conclusions about the money launder-
ing situation in the Bank of New York. Maybe these are inter-
national organizations, maybe ours. Don't forget that Russia is still
a wealthy country. Two hundred years ago, our historian

145

Karamzine, when he saw fellow Russians in Paris, and this Rus-
sian asked him, "Well, what is happening in Russia?" He re-
sponded, "They are stealing." During those 200 years, they haven't
managed to steal everything, and because of that, the $1.5 billion
that is leaving Russia, more often than not, it is our money.

There are American traces for this money. Five years ago we had
the history of Mr. Stroiyev. An American mass media called him
one of the best businessmen in Russia. Newsweek had a photograph
of him on its first page. He was a member of the Moscow govern-
ment, and at the same time President of the firm Perestroika. He
stole everything that he could. And bought everything that he
needed or wanted in America. He ran away from Russia two days
before my article about him appeared, and now he is leading a
calm life in Atlanta, and he is afraid to return to Russia.

I also researched the history of oil. The money received for the
sale of this was supposed to go to the Republic of Komi. The Repub-
lic received only about $1 million. The other $11 million turned up
in pockets of various officials. When in Copenhagen, I found a list
of these officials and of the money that was lost, and at that time
huge sums were transferred to the U.S.

The Committee for Fighting Corruption and my fellow members
in the Duma raised the question of raising a criminal issue about
this, and this case was given to the procurer of the small town
Solikamsk, and the official there in charge of the investigation has
no money to travel anywhere to investigate this issue. And the in-
formation I had, the bills, are still lying in my safe at home, be-
cause it seems that nobody was interested in this.

The truth of the matter is that the local governor has ties to the
president's family. As I was told in Copenhagen, one of the oil com-
panies, Tabakiev, was sold at auction offshore in the Virgin Is-
lands. The son-in-law of President Yeltsin, Aleksandr Uchinko, was
involved in these dark dealings.

There is another American connection, the city of Monroeville in
Pennsylvania, that one of the founders of the firm Alletta, who was
buying Russian nuclear technology, he is a member of the ministry
named ADAMAT, and the account for this company, and possibly
the Minister itself, is in a PNC Bank in Pennsylvania. Much has
been written and said about this, but even though the premiers in
Russia have been changing, the ministers still stay.

Now, about credits. We took an interest in the expenses or in for-
eign credits, and among those receiving them were now defunct
banks, Menatep, Imperial, Inkombank, Dacca bank, and what was
even more surprising to us, $400 million are to be spent in aid to
Mongolia, Tunisia, Cuba and Vietnam, and so forth, Algeria. We
are not rich enough these days to be able to do this. And the most
interesting thing, or maybe interesting for my American colleagues,
each third item in the credits is titled "consulting." Could it be that
during those last two years, all of this consulting done for our offi-
cials has not taught them anything? But who are these consult-
ants?

A few years ago, with my American colleagues, we studied the
question of where the credits for supporting small business dis-
appeared to. It turned out that they were in several books which
remained in the Russian Embassy, but more than that, I was told

146

that money which is given by the West is not only stolen by our
officials, but is also going into the pockets of these numerous con-
sultants, including those from the USA for expensive Moscow ho-
tels, for travel with family and friends to Moscow, and so forth, and
I want to stress and repeat that I know this from my American
friends.

I am very grateful that yesterday I heard in this hall that the
state Duma still exists, but America is a strange country. It only
knows symbols. Gorbachev is a sjmnbol of Perestroika. Yeltsin is a
symbol of democracy. Chubais is a symbol of privatization.

The conclusions of the commission of which were about the rea-
sons for the default of August, which were created by a decision of
the federal council, it gave the names openly of Kadiyevka,
Dubenya, Chubais as the authors or the executors of this financial
crash. More than that, in this conclusion, Chubais is accused of giv-
ing out certain interested to financial groups, both ours and for-
eign, the timetable for the financial crash that was to come. There
is a different opinion of Chubais in different parts of society, and
including my colleagues, the members of the democratic faction
Yabloko.

But even during the non-official visits of Chubais to Washington,
he is received by the highest officials of the U.S. Administration.
There is a double bookkeeping, both here and there. I think that
the decision of the U.S., that was not well thought out, and an in-
adequate evaluation of the current situation in Russia leads to the
fact that the higher officials in Russia feel that they can do what-
ever they wish, their hands are not tied. This happened in the fall
of 1993 when the American Administration in practical terms ap-
proved of the dissolution of parliament, no matter how I personally
felt about the parliament at that time.

I remember a conversation I had with a high-level government
official in Washington. He said what Russia has to do in par-
liament is turn off all the water supplies so they would be forced
to leave, and I asked him, would he advise that to his own Presi-
dent, to cut off the water supply in the Senate or Congress? And
this leads to what we are talking about here and even more than
here, in Moscow.

From time to time I hear from our officials, well, what is this,
somebody received $10,000 or $100,000 for a book that has not
been published yet. Is that money? And I am reminded of our
teachers, our doctors, our soldiers who are fighting in the
Caucasus, and our officers whose salary is 22 rubles a day, which
is enough to buy a pack of cigarettes.

Thank you very much.

Chairman Leach. Well, thank you very much, Mr.
Shchekochikhin, and let me stress in terms of symbols, I think the
Shchekochikhin symbol will be straight talk. Your issue of book
publishing is not novel to Russia.

Let me ask a question just about reactions in your country. You
have a few Russians today who have bought major real estate in
the United States, in Pebble Beach and Palm Beach. What do Rus-
sians think of this? Are they offended or do they think this is right
and proper?

147

Mr. Shchekochikhin. You know, we can't say today that every-
one who buys real estate is a bandit or a criminal, but I think we
have to go not from private property to crime, but from facts which
take place in Russia and then go to the real estate. And unfortu-
nately, the cooperation between our special services is very bad, no
matter what is said here or contrary to what is said here.

Chairman Leach. What are the best estimates of the capital
flight from Russia? And can you give us your assessment of why
so much investment from Russians has fled Russia? Is it the eco-
nomic stability, the political instability, the absence of legal protec-
tions in property? Why have Russians lost confidence in their own
country and determined to allow so much capital to go abroad?

Mr. Shchekochikhin. That is a very important question. When
President DeGaulle, when he came to power in France said, I ask
the French to put their money in French banks and I promise that
not one centime will be lost — unfortunately we have no one to say
something like that. And of course, lack of trust in the government
is the first or the foremost reason. In spite of the efforts of the
Yabloko faction to change the tax laws, nothing is happening. If
one were to pay all taxes, then there wouldn't be any business at
all. It is safer to hold the money in the West. Unfortunately, for-
eign banks are not working in Russia. There are many reasons. It
is like the thousand and one nights.

Chairman Leach. One final question. What role do you see being
played by what are called offshore banks, banks in Antigua and
Cyprus, and is there any reason why the Duma could not pass a
law that disallowed capital flight to countries that didn't have well-
regulated banking systems?

Mr. Shchekochikhin. Yes. The Duma could pass a law about
that, but what will happen after that? With the dissolution of the
Soviet Union and with the formation of new countries with which
we do not have normal boundaries, with this enormous amount of
joint enterprises or firms, the money will flow out. I am not even
talking about the direct carrying out of cash money.

About five years ago I saw someone in Washington who carried
out $3 million in cash. I asked him, "How did you manage to do
that?" And his eyes became very sad, and he said, "I had $5 mil-
lion."

Chairman Leach. Thank you, sir,

Mrs. Maloney.

Mrs. Maloney. Welcome, Mr. Shchekochikhin, and thank you for
joining us here today. In this country, money laundering is en-
forced by our bank regulators, the Treasury, through FinCEN, the
Justice Department, the FBI and many other agencies. Could you
comment on the level of commitment to combat money laundering
in your own country, what are the agencies combatting money
laundering, and do they have a strong political and popular sup-
port?

Mr. Shchekochikhin. There is a presidential veto on the law
that is about money laundering. This law is not perfect, but it is
this kind of law that is not perfect in many other countries, too,
but you need some sort of basis or foundation. Then, second, there
was a commission formed to deal with money laundering, with rep-

148

resentatives from several agencies, but this is a very complicated
question and not only in Russia.

In this very room yesterday, I heard from a colleague of yours
that I know that American banks launder money, but not a single
bank lost its licensing during this time. And of course we need co-
operation between our financial organs, exchange of information
with each other, trust in each other. That is the most important
thing.

Mrs. Maloney. Could you elaborate? You said there was a law
that passed that was vetoed by the president. You said there was
legislation with a presidential veto. Could you clarify?

Mr. Shchekochikhin. You know, it would be easier for the presi-
dent to explain this.

Mrs. Maloney. But he did veto the legislation.

Mr. Shchekochikhin. Yes, he vetoed a law which was passed by
the Duma. Right now, a committee is working on this.

Mrs. Maloney. What was the reason he gave when he vetoed the
Duma's legislation on money laundering?

Mr. Shchekochikhin. Well, first, because the law was not per-
fect and there is one thing in the law that you can take issue with,
and our colleagues from the Communist Party and we argued with
them about this.

Mrs. Maloney. What was the point they took issue with?

Mr. Shchekochikhin. OK. The terminology used was "unlawful
income" rather than "criminal income," because unlawful is a much
more embracing or wider embracing term. You could take some
grandmother who is selling flowers at a metro stop, but this gave
the president a reason to veto this law.

Mrs. Maloney. Well, Mr. Chairman, I want to compliment you
on calling this hearing and for the legislation that you introduced
yesterday, and I have reviewed it and I look forward to working
with you to enact it in this Congress, even though it is not perfect.
It is a step in the right direction, and I support it.

Chairman Leach. Thank you very much. And I want to make it
very clear that this hearing is not designed to investigate Russian
Bablashisks.

Mrs. Roukema.

Mrs. Roukema. All right. Thank you, Mr. Chairman.

I do want to ask a question for clarification. I believe you said
that foreign banks are not active in Russia. Did you indicate that?
But does that mean that only U.S. banks are active in Russia. Or
did I misunderstand you?

Mr. Shchekochikhin. No, no, you misunderstood. There are
no

Mrs. Roukema. No foreign banks?

Mr. Shchekochikhin. There are no foreign banks in Russia. You
said that America welcomes a number of foreign banks in Russia.
That was said here yesterday in these chambers.

Mrs. Roukema. Oh, I see.

Mr. Shchekochikhin. But I think that active Russian banks —
and the Western banks in Russia probably, that is equal to zero
right now.

Mrs. Roukema. But there are still some American banks active
in Russia or have been up until now?

149

Mr. Shchekochikhin. No, I think that American banks are act-
ing or active with Russian money in the U.S.

Mrs. ROUKEMA. We will come back to that, but let me ask this
question. At the beginning of your testimony today you made this
statement: "I want to warn you about coming to conclusions about
the Bank of New York," but you didn't state your warnings about
the conclusions. Can you comment on that subject?

Mr. Shchekochikhin. I read the American press about this
scandal. The same facts are repeated, and I don't see any proof, but
I read that this scandal involves money from the IMF and that
somehow this is linked to whether aid should be given to Russia,
and I am afraid when criminal questions are taken over by political
questions, and that is why I would not rush to conclusions. Maybe
those, the commentators are correct, but maybe not.

Mrs. RoUKEMA. I hope you would feel confident at this point in
time. I am confident that the investigation through the criminal
justice system is being properly handled. It will have due process
under the laws of our country. Let me go on and ask you this. One
of our people yesterday on the panel made this statement: "Russia
is too important to abandon."

A question I have for you is how and when can we restore our
economic and foreign policy ties to Russia in your opinion?

Mr. Shchekochikhin. Well, right now there is the hope for
America and Russia, it is gone. What I am saying is what people
feel over there.

Mrs. RoUKEMA. Yes, yes.

Mr. Shchekochikhin. Maybe it will come back. I hope that this
will happen. Who will make the first step? I came to Washington
right after the bombings in Belgrade and I tried to explain to the
high officials and the Administration in the U.S. The experience
from Vietnam, from Afghanistan, from Iraq, it all turns out to be
something other than what it was supposed to be. It is a very com-
plex question, and this really had an impact on the relations be-
tween Russia and the U.S., and I was told that I don't understand
anything in foreign policy.

Mrs. RoUKEMA. I thank you for your response.

Chairman Leach. Thank you.

Mr. Bereuter.

Mr. Bereuter. Thank you, Mr. Chairman.

Mr. Shchekochikhin, thank you very much for your testimony. I
heard your story about someone in this Administration suggesting
the water should be shut off on the Duma. They have the same at-
titude in some places about the Congress shutting off" the lights
and the water. They love democracy in the abstract, but when it
comes to the inconvenient appendage called the Congress, which is
tenacious and inquisitive, it creates a lot of problems for those peo-
ple who prefer an elected absolute monarch.

Having commiserated with you as a parliamentarian on that, I
would like to ask you what you meant when you said there is dou-
ble bookkeeping in both places.

Mr. Shchekochikhin. Well, it is a double moral standard. It is
not a financial category right now.

Mr. Bereuter. We have had people come before us and in other
sessions, Russian economists from outside of the government and

150

institutes, who have suggested that the West should provide no
more financial assistance to the central government, but should, in
fact, provide multilateral and bilateral assistance to building de-
mocracy by working with people at the local level and by pushing
for a rule of law. They have also gone on to say that since the debt
of the Russian government seems so hopelessly large, a better solu-
tion would be to forgive the Soviet debt which falls on Russia
today. That would five the Russians some hope for actually meeting
debt requirements which, in turn, could cause a positive effect upon
performance.

Now, it is easy for an American to embrace that possibility, if it
is a good one, because most of the Soviet debt is held by German
banks. What is your reaction to: One, shutting off aid to the central
government?; and, second, sending it out to governors and local
groups that are doing their job — focusing on democracy and rule of
law?

Mr. Shchekochikhin. You know, I am not an economist. I am
in the Security and Corruption Committees, and I am not as intel-
ligent as the economists, but I am afraid of the words "give money
for democracy." Because then what happens is that democracy is
being built on only one small part of the territory for one person.
I think we have to try to get joint projects, joint technologies where
a year from now you could actually feel or see the results, what is
happening.

I am sure that Russia does not need any more consultants from
the U.S. or from Germany on how to build democracy. The world
is small. We have to work together.

Mr. Bereuter. Mr. Shchekochikhin, I want to fit in one more
question if I may on my time. What is your best judgment about
the extent to which Russian organized crime has succeeded in gain-
ing control or ownership of Russian banks?

Mr. Shchekochikhin. You know, I heard a colleague talk here
today of the hearings, and for many years I have been trying to
find the Russian mafia in America. A lot has been written about
it and a lot is being said about it, and there is only one criminal
case against Yaponchik, and I am getting tired of all of these mys-
terious figures, the Russian mafia, because I see the same thing in
Russia also. Organized crime is actually being suppressed by the
officials in the administration. It is the officials who are getting the
money.

These are new processes. I have been studying this issue of all
of these criminals for twenty years, you can believe me, and that
is what is frightening, and today the organized crime is turning to
narcotics and things like that.

Mr. Bereuter. Thank you, Mr. Chairman.

Chairman Leach. Thank you. Just to clarify what you are say-
ing, is there is an increase in public corruption as contrasted with
traditional criminal activities?

Mr. Shchekochikhin. Yes, that is correct.

Chairman Leach. Thank you.

Mr. Barr.

Mr. Barr. During the course of the last two years in our country,
we have investigated extensive use of illegal foreign money into the
President's reelection campaign, including large amounts of money

151

coming in from Communist China and other countries in the Far
East. Are you aware of any evidence that any money from Russia,
including from organized crime elements, has been funneled into
any political or election campaigns of public officials here in this
country?

Mr. Shchekochikhin. No, ours — they won't give money for that.

Mr. Barr. They are somewhat unique then. Do you have any evi-
dence, I know you touched on this very briefly, but could you indi-
cate if you have any further evidence that the money that is being
accumulated by organized crime in Russia is being used to traffic
in armaments with groups outside of Russia, groups inside Russia,
or other countries?

Mr. Shchekochikhin. Yes. A lot has been said and written about
this. Criminal cases were begun — again several generals who had
ties with these bandits, with bandits. But, you know, the arma-
ments market is traditional for organized crime and for high-level
officials who are linked to that.

You especially see this in the Caucasus. Right now you had this
case with this invasion of Dugestan and there was an international
brigade in Dugestan at that time. I myself saw people who were
killed who were from the Sudan, and they had the newest kind of
armaments, which the Russian army doesn't have. Almost every
one of them has this English sniper rifle, Magna, whereas in the
territory of Dugestan there are only two of those. And so, as you
can see, it is a very big market.

Mr. Barr. Any evidence that that market includes biological or
chemical weapons?

Mr. Shchekochikhin. There is some, a little bit written about
this, and especially the younger investigators are looking into this.
But those conflicts that I had looked into, I did not see any evi-
dence of this or I would have written about it.

Mr. Barr. Is there any evidence that the trafficking of arma-
ments, or the funding of sales of armaments, extends to terrorist
nations such as Iraq or Libya?

Mr. Shchekochikhin. Well, you know, I am convinced that those
attacks on Dugestan were funded by Arabic countries, and every-
one knows about this, and a lot of money — big money, is going. You
know, the main purpose there is to establish Islamic Fundamental-
ism, or even worse, on Dugestan territory. And so a lot of money
has been given for this, and I think that this whole Caucasian busi-
ness is, it is not only a Russian affair, it should be international,
or it is international. Because there are a lot of links there with
countries that are traditionally supported by the USA.

Mr. Barr. Thank you.

Chairman Leach. Thank you very much, Mr. Barr. And let me
thank you, Mr. Shchekochikhin.

I would also like to extend personal thanks to the interpreter
who represents the Library of Congress, and I think she has re-
flected very well on herself and the Library and we appreciate very
much your being able to do this today. Aiid I might ask that you
introduce your name for the record if you would.

The Interpreter. Natalia Montviloff. Thank you.

Chairman Leach. Thank you. Thank you, Mr. Shchekochikhin.
Thank you.

152

Our third panel is — we welcome Thomas A. Renyi. Mr. Renyi is
Chairman of the Board and the Chief Executive Officer of the Bank
of New York.

And your full statement will be placed in the record. And you
may proceed as you see fit and read the full statement or parts as
you prefer.

STATEMENT OF THOMAS A. RENYI, CHAIRMAN AND CEO,

BANK OF NEW YORK

Mr. Renyi. Thank you, Mr. Chairman. Mr. Chairman, Members
of the committee, my name is Tom Renyi, and I am Chairman of
the Board and Chief Executive Officer of the Bank of New York.

I appreciate the opportunity to testify before the House Banking
Committee on behalf of the Bank of New York. Our bank was
founded in 1784 by Alexander Hamilton. Our business today fo-
cuses on the global financial services sector, and we are one of the
leading correspondent banks for commercial banks around the
world. We provide corporate and retail services in our home mar-
ket, as well as a variety of other trust and investment services.

The Bank of New York has consistently enjoyed a reputation for
prudence and responsibility while producing amongst the highest
earnings in our industry for our shareholders. I have been dis-
mayed by suggestions in the press that the Bank of New York was
somehow actively involved in the reported Russian money launder-
ing scandals. Let me said the record straight, no charges have been
filed against the Bank of New York, no relevant authorities have
asserted that the bank is engaged in money laundering or violated
any other law. No customer of the bank, nor the bank itself has
lost money as a result of the activities in question.

During the past year, we have worked closely with all of the on-
going investigations. We have provided thousands of documents
and millions of electronic bits of information, and these investiga-
tions are not yet complete. They remain highly confidential, and as
you can understand, there are limits to what we can disclose prior
to their completion.

Mr. Chairman, in my written statement I have provided detailed
information on the six specific topics raised in your letter inviting
me to appear today. I would like to use this limited time available
to me now to discuss several basic questions: What events actually
took place, how did they take place, what have we done as a result
of these events, and the subsequent inquiry. And, finally, Mr.
Chairman, I would like to suggest policy issues that the committee
may wish to consider.

Press accounts have tended to ignore the Bank of New York's co-
operation with the investigating agencies both here and abroad.
And although, Mr. Chairman, there are limits as to what I can say
again about these investigations, let me try and describe what I
can.

The bank learned of these investigations a year ago in September
of 1998, and when we requested the U.S. Attorne/s permission to
close the accounts, we were asked to keep the accounts open, to ad-
vise no one, other than our bank regulators, and to take no action
that would compromise the investigations. We did all of these
things.

153

This was our commitment then, and it remains our commitment
now to cooperate fully with all law enforcement agencies. Now
when opened, the accounts were quite normal. The principal ac-
counts were opened at a New York City branch of the bank by
Peter Berlin, a New Jersey resident, who became a U.S. citizen in
1996 and who represented himself as operating small businesses in
the New York metropolitan area.

The accounts were referred to us by an officer of the bank, Lucy
Edwards, Mr. Berlin's wife. The initial history of these accounts
were unremarkable and account activity was consistent with a
modest business.

However, the volume of funds moving through these accounts in-
creased to levels well beyond what would have been expected for
businesses of this kind. And when bank employees noticed the in-
crease in volume, questions were raised within the bank both about
Mr. Berlin and his companies. But the questions were not pursued
with sufficient vigor or follow-through and the questioners relied
too heavily on the fact that Mr. Berlin was married to a well-re-
garded bank officer, Ms. Edwards, who again originally referred
the accounts.

Allowing these accounts to remain open and active without suffi-
cient questioning was a lapse on the part of the bank, and I have
taken personal responsibility for implementing remedial actions,
which I will describe later in my testimony. But let me turn, Mr.
Chairman, to the Bank of New York's business dealings in Russia.
The bank has done business in Russia since 1922. And with the
collapse of the Soviet Union in 1991, a new banking system began
to emerge in Russia. And we, as many of the nation's leading com-
mercial and investment banks, were asked to aid in the develop-
ment of their banking system.

The role we chose was similar to what we do in many other coun-
tries and more limited than what many other banks chose. In our
case, correspondent banking and securities processing activities,
bank-to-bank business that generates stable predictable fees with
relatively low risk in capital exposure was what we chose. To cor-
rect any misimpressions, I want to underscore the fact that Bank
of New York has no branches or bank subsidiaries in Russia, just
a small five-person office that performs administrative functions.

When we open correspondent relationships, we are selective. We
do business only with banks that meet the high standards in their
particular marketplace. We require documentation from them as to
the legality and the creditworthiness of their businesses and we re-
view their capital adequacy and their reputation in the local mar-
ketplace.

But having a correspondent relationship with a bank, Mr. Chair-
man, does not give us nor any bank much direct knowledge about
that correspondent's customer accounts. This results from the
opaque nature of the electronic global payment system. Information
regarding the sender and receiver of funds consists little more than
sums, account numbers and digital information regarding the bank
identified.

The system is excellent at tracking funds' flows within its elec-
tronic pathways, but the system is not very good at identifying who
controls the origination or destination accounts, how they may have

154

come by the money or what they plan to do with it. So we share
that frustration that all of the authorities who are our partners in
these ongoing investigations have regarding these accounts.

In the last five weeks, we have examined vast amounts of data,
but we do not have all of the answers that we want and we don't
know when or if we will. Working with outside auditors, we have
reviewed the program we employ for identifying and reporting sus-
picious activity, and we have identified several areas of our im-
provements and have implemented already most of the changes.

We have formed

Chairman Leach. Mr. Renyi, if I can interrupt you for just a sec-
ond.

Mr. Renyi. I'm sorry, Mr. Chairman.

Chairman Leach. I apologize, we are interrupted by a vote on
the floor, maybe several votes, and it strikes me that it might be
better to recess in the middle of your testimony than just before
you finish so that you have a better chance to give a flow.

Mr. Renyi. Fine, Mr. Chairman.

Chairman Leach. So what I would suggest is that the hearing
recess pending the several votes, and then we will return to your
testimony. And you can proceed as you see fit at that time.

Mr. Renyi. Very well.

Chairman Leach. So the hearing will be in recess pending the
vote.

Mr. Renyi. Thank you.

[Recess.]

Chairman Leach. The hearing will reconvene.

When we recessed for a series of votes, Mr. Renyi was in the
middle of his testimony, and I would like him to proceed.

Mr. Renyi. Thank you, Mr. Chairman.

Prior to the vote, I had summarized much of the activities that
were taking place in the Bank of New York that is subject to our
investigation and, most importantly, what we did about them, what
we are doing about those activities, those investigations.

I was at the point where I would like to really discuss and offer
some public policy commentary and being that one of the central
issues, one of the central questions that are coming before this sub-
committee is the possible misuse of international funds transfer
system, which we feel is a truly important issue that affects clearly
all of the banking system here in the U.S.

It is an issue that has two components, the granting of access to
the global payment system and the monitoring of activity taking
place within the system. Mr. Chairman, if Congress concludes that
the access to the payment system should be tightened, I would urge
strongly that this be done through a process of international co-
operation, otherwise, if we restrict access in any one country, we
may simply drive would-be wrongdoers to less stringent points of
entry into the system.

The U.S. dollars, the unquestioned currency of choice of pay-
ments, for pajonents moving through the global system, any policy
action that reduces the importance and attractiveness of the U.S.
dollar for world trade would place the United States at a competi-
tive disadvantage.

155

As we look at monitoring activity within the payment system, we
should as well determine how U.S. foreign policy should address il-
licit business activity that uses this payment system.

Today, an agency of the U.S. Treasury, the Office of Foreign Ac-
cess Control provides enforcement against academically embargoed
countries. Should that approach be applied to money laundering?
Should it be applied to capital flight? Could it be done without hin-
dering legitimate trade flows? And if we choose to step up surveil-
lance activities, can we do so with appropriate respect for our fel-
low citizens' right to privacy?

Mr. Chairman, you have expressed a policy concern about the
role of U.S. banks in establishing correspondent relationships in
Russia and other emerging countries where there are clear con-
cerns for corruption. Let us be careful that if Western banks red-
line Russian banks, the emergence of a modern capitalistic econ-
omy in Russia will probably be impossible.

In conclusion, I believe that these are legitimate and important
issues that touch on the central themes of these hearings. Yet the
broader considerations should not obscure the essential responsibil-
ity that we and all the participants in the global system have in
ensuring its appropriate use. When any financial institution pro-
vides access to the system or facilitates its use, it must do every-
thing it can to prevent illicit activity from taking place as a result.
And if illicit activity does take place, it must detect it and bring
it promptly to the attention of appropriate authorities. This is our
responsibility and on behalf of the Bank of New York, I reaffirm
that responsibility today.

Thank you, Mr. Chairman.

[The prepared statement of Thomas A. Ren}^ can be found on
page 381 in the appendix.]

Chairman Leach. Thank you very much, Mr. Renyi.

Let me say that there is an element of awkwardness in all of this
hearing in that we have before us today one of the most reputable
banks in the world and a bank with an enormous history, in fact,
as stated in your initial comments, the oldest bank in the United
States founded by the man many of us considered to be our great-
est Secretary of the Treasury, Alexander Hamilton.

The fact that it is such a great bank and such a reputable bank
makes the questions at stake rather large, because if our best and
strongest are part of a system in which money can be laundered,
whether it be through fault or not fault of the bank, is very dif-
ficult.

So let me just begin by saying, can you give us a sense of the
magnitude of funds that you believe have come from Russia
through your bank?

Mr. Renyi. I am sorry, I didn't hear you. What is the source?

Chairman Leach. The magnitude of funds that would be consid-
ered in a traditional way. You know, press accounts are in the $10
billion figure; you indicated to me privately perhaps less than that.

Mr. Renyi. Somewhat less than that. We are in the process of
our own investigation, which really started five weeks ago when
the leak first occurred in the press, and as you can imagine, this
is a very, very complex, very complex situation to review, and there

156

are literally thousands of pages of documents, thousands of credits
and debits flowing in these accounts.

What we have been able to determine is that the central ac-
counts in question here that were controlled seemingly by Mr. Ber-
lin moved $7.5 billion over the past three years, roughly three and
one-quarter years, roughly even throughout the course of those 3^2-
3^4 years. So the magnitude is very substantial under virtually any
type of measurement.

Chairman Leach. So these are the accounts controlled by this
one individual? How many Russian banks are correspondents that
you work with?

Mr. Renyi. Today, Mr. Chairman, we have roughly 160 banks
that we work with. That represents approximately 10 percent of
the universe in Russia today.

Chairman Leach. Yesterday a former CIA station chief indicated
that his judgment was about 85 percent of the Russian banks are
fraudulent, and the figures are a given kind of magnitude that
have been talked about for some time, and that Russian banks in
many cases are considered money laundering platforms.

Do you have figures on dollar volume of Russian bank funds run
through your bank?

Mr. Renyi. We do, Mr. Chairman. Obviously through the course
of this examination, we have literally pored over every type of sta-
tistic that we can to develop a sense of dimension to this issue
within our own organization. I think it gives some degree of dimen-
sion as well to the issue overall through the U.S. banking system.

With regard to our banks, our correspondent banks in Russia, we
looked at specifically a timeframe of last July and last August,
which coincides with the IMF payment last year, to determine
what volumes were flowing through our accounts. And at that time
it was $3.7 billion per day.

Chairman Leach. $2.7 billion per day?

Mr. Renyi. $3.7 billion per day on average and a fairly tight
range, $3.2 to $3.8 biUion.

Chairman Leach. How would this relate to say three months
earlier and three months later?

Mr. Renyi. It appeared to be very, very similar. There was a
slight runup since the early part of 1998, but it has stayed very
stable around that $3.7 billion. I might add that represents less
than 1.5 percent of all of the dollars that we clear for all of our cor-
respondents, which is about $600 billion.

Chairman Leach. Of these amounts, how many would have had
any origin in let us say from offshore banks, or are these directly
from Russia?

Mr. Renyi. This would all be from Russia.

Chairman Leach. Directly?

Mr. Renyi. These are all Russian.

Chairman Leach. Using no intermediaries?

Mr. Renyi. Russian domiciled organizations, yes, Mr. Chairman.

Chairman Leach. Now you have an offshore subsidiary, is that
correct, in the Cajnnans?

Mr. Renyi. We have both a branch and a subsidiary trust com-
pany.

157

Chairman Leach. For what reason would you have a branch in
the Caymans?

Mr. Renyi. The Ca3rmans branch is a funding vehicle for the
bank overall. It is similar to virtually every Cayman branch that
any U.S. bank would have. It strictly offers an ability for us to be
able to quote different rates than what we have here in the U.S.
The Cayman branch that we have is under the jurisdiction of the
Federal Reserve.

Chairman Leach. Now, today's Wall Street Journal reports that
investigators were reviewing two accounts at your Cayman branch
that are beneficially owned by Leonid Dyachenko, who is married
to President Yeltsin's daughter and close political adviser Tatyana.

The article suggests that the Cayman accounts were opened in
the names of two offshore companies, the ownership of which ap-
pears to be a bit unclear, and the deposits into the account came
from two companies owned by Mr. Dyachenko and incorporated in
the Caymans. These two companies are in turn reported to be af-
filiated with the Russian company that published President
Yeltsin's memoirs.

Can you tell us, first, is it true that the Bank of New York main-
tains accounts for Mr. Dyachenko in the Cayman Islands?

Mr. Renyi. As you can imagine, Mr. Chairman, this is an excep-
tionally sensitive issue. Because it is very much under the purview
of the ongoing investigation, we by policy do not discuss relation-
ships with any of our clients. That is a policy that is shared by vir-
tually every bank that I am aware of, compounded by the issue
surrounding the investigation. Obviously given the commentary
today in today's press, what I can say is to confirm the fact that
those two accounts do exist at the Bank of New York, that Cayman
Island branch. Again, as any deposits that may be, any accounts
in the Cayman Island branch is under the supervision and jurisdic-
tion of the Federal Reserve, just as every branch in the United
States is.

Chairman Leach. Jurisdiction implies regulatory.

Mr. Renyi. Regulatory review.

Chairman Leach. But that is different than legal jurisdiction.

Mr. Renyi. I am implying the regulatory review.

Chairman Leach. I think that is a distinction that is of some
profoundness.

Did you make inquiries to determine who the beneficial owners
were when these deposits were made? Did you know that at the
time?

Mr. Renyi. That, Mr. Chairman, I am again quite sensitive to,
and I am not sure I am in a position to respond to that, again,
given the ongoing investigation.

Chairman Leach. This is just a question for the bank, to the
bank's knowledge.

Mr. Renyi. In terms of the bank's own actions, yes, we did. We
asked and went through, to the best of my knowledge, and I have
reviewed that, the typical routines that we have for know your cus-
tomer, which includes an identification of the beneficial owner and
source of proceeds.

Chairman Leach. Do you maintain accounts, to your knowledge,
for any other members of President Yeltsin's inner circle?

158

Mr. Renyi. To my knowledge, no. And I might add, we have tried
to do as thorough an investigation over the course of the five weeks
to try and identify any of those accounts.

Chairman Leach. Is there anything unique about Russian bank
correspondent relationships with your bank; that is, relative to
other countries? Do you charge different fees? Do they have dif-
ferent patterns of activity?

Mr. Renyi. The style and the character of the business that we
do with our Russian correspondents are very, very similar to what
we do elsewhere in the country and elsewhere in the world, espe-
cially as it relates to other emerging or developing countries. In
those types of countries, our correspondent banking business tends
very much to be in the deposit side of the dollar clearing, in provid-
ing cash management services with a very modest level of credit
exposure, and that does exist, that profile, that character is very,
very similar — in Russia — similar to everyone else.

In terms of the fees, we did also investigate. Again given the
press reports that would indicate that significant amounts of profit-
ability were gained from our Russian business, I looked very spe-
cifically at fee comparisons as to what we have been able to charge,
what we charge for our Russian correspondent banking business
and elsewhere around the world and where we have found, with
the exception of Europe, which is the most competitive portion of
the world. Eastern Europe, generally in Russia, in particular, had
the next lowest rate fee, rate of fees that we were charging.

I asked why, and the immediate response is the competitive at-
mosphere, given the fact that we are not the only organization that
has similar banking relationships, correspondent banking relation-
ships and dollar clearing accounts.

Chairman Leach. Let me be clear about this. You just go to the
numbers, because numbers can be numbing. We had $7.5 billion
cleared through one account, and $3.5 billion a day through just
general correspondent relationships with Russian banks?

Mr. Renyi. Yes.

Chairman Leach. To your knowledge, is this typical of other
banks in New York, or are you different?

Mr. Renyi. I believe it is typical, Mr. Chairman. The $7.5 billion
that I referred to was a cumulative number over three years. The
average volume per day was approximately $6 million. I think
there is a need to compare that and characterize that in the con-
text of our overall clearing, which I indicated was about $600 bil-
lion a day for all of our correspondent banking relationships.

Mr. LaFalce. Can I interject for one second, are you comparing
$6 million to $6 billion per day?

Mr. Renyi. In terms of the dollar clearing that we do, yes.

Mr. LaFalce. I wasn't sure that I got the Ms and the Bs
straight. Thank you.

Mr. Renyi. There were three, three figures, three statistics that,
Mr. Chairman, I think you were discussing, and that is the daily
flow within the principal accounts of the so-called Berlin accounts,
all of our correspondent banking within Russia and then our entire
dollar clearing business enterprisewide, and that is $6 million for
the Berlin accounts, $3.7 billion per day with regard to the Russian

159

banking correspondents, and $600 billion enterprisewide. We are
the second largest dollar clearing organization in the U.S.

Chairman Leach. As a financial company that is central to this
worldwide movement of capital, what is your personal sense over
the last three or four years of how Russia is behaving? Do you have
a view that we have a problem in this great country of Russia, or
is this something that the bank is neutral about?

Mr. Renyi. Well, I suspect, Mr. Chairman, that just given the na-
ture of the proceedings and what I heard last night on television
of yesterday's proceedings and clearly seeing this firsthand myself
this morning, it is not an uncomplex issue. There are a lot of other
very countervailing forces here. Clearly there is an intention since
1991 to bring Russia west, if you will, to effectively provide for
them to offer to them a Westernized capital markets.

We also have, I think, as an intention from a government-to-gov-
ernment view to certainly support Russia in its view to democracy,
what we have found in every other country that the strength of a
democracy, the strength of an economy is based on its banking sys-
tem, and, thus, when we were asked when we saw opportunities
clearly as a commercial bank in the U.S. dealing with offshore com-
ponents to be able to conduct business and then encouraged by nu-
merous governmental agencies to be supportive with regard to the
development of a capital market, we saw great opportunity, there-
fore— and encouragement, and therefore we have been active as
many banks, as very many commercial banks as well as investment
banks within that Russian market.

At the very same time, we clearly have been seeing the growing
pains that exist within Russia as it has been in virtually every
emerging country. Every developing country has gone through
similar phases, if you will. The degree of volatility within the Rus-
sian economy, Russian banking system may be somewhat unique.
I am not sure I am the best person to respond to that.

Chairman Leach. Let me just conclude with one kind of tying
the numbers. You have indicated a figure for Russian banks, you
have indicated a figure for the Berlin associated companies. Are
there other Russian companies or individuals that you have figures
for?

Mr. Renyi. No, that is by far and away the statistics — there is,
I don't believe, any relevant statistics, I think, relative to the issue
on the table today.

Chairman Leach. Thank you.

Mr. LaFalce.

Mr. LaFalce. Thank you very much.

Let me make sure I have a correct, accurate grasp of the statis-
tics. When you were referring to $6 million per day, you were refer-
ring to one account, the Berlin account; is that correct?

Mr. Renyi. To be very clear, it is several accounts, but it is es-
sentially operated by one individual.

Mr. LaFalce. About how many different accounts operate?

Mr. Renyi. Approximately I believe there were eight in total. I
think there were probably three or four active at any one time.

Mr. LaFalce. I see. Are these bunched together in any comput-
er's mind or any

Mr. Renyi. Yes.

160

Mr. LaFalce. You would review those?

Mr. Renyi. Absolutely, they were clustered to a point where we
had one individual overlooking all of them.

Mr. LaFalce. So we can look at the $6 million. And then the
next data is $3.7 billion per day, is that correct, and that was for
all Russian accounts?

Mr. Renyi. All Russian correspondent bank accounts.

Mr. LaFalce. Correspondent bank accounts, yes.

Mr. Renyi. Yes.

Mr. LaFalce. And then the third figure was $600 billion per day,
and that was for all correspondent bank accounts; is that correct?

Mr. Renyi. That is correct, sir.

Mr. LaFalce. OK. Was there anything that in retrospect should
have raised a red flag either to you or someone working under you
or to the Federal regulator responsible for the Federal Reserve
Board.

Mr. Renyi. There certainly were flags that were raised not nec-
essarily unfortunately to my level personally or to the regulators,
but that there were individuals who supervised the account on a
day-to-day basis who did see a marked increase in volume over
what was originally reported to be or represented to be expected to
go through those accounts.

Those individuals who did raise the questions unfortunately
raised them without really much vigor, without much follow-
through, without raising it up through their own chain of command
within their own organization. Our own investigation would indi-
cate that those individuals took comfort in the fact that those ac-
counts, particular accounts, were referred to by a very well re-
garded bank officer, who happened to be Mr. Berlin's wife.

Unfortunately, I can't get into the psyche of those individuals
and in the minds of those particular individuals, but they did not
see the obvious conflict that we might see in hindsight.

Mr. LaFalce. All right, thank you. The Federal Reserve Board
has the legal regulatory authority over the Bank of New York?

Mr. Renyi. That is correct, sir.

Mr. LaFalce. Now, A: what does that authority consist of with
respect to accounts like this, and what is the nature of their peri-
odic examinations of accounts such as this, most especially with re-
spect to the money laundering laws? It is my understanding that
the law enforcement officials criminally rely in large part on the
regulatory authority's examinations to detect whether there is
some criminal violation of the money laundering laws.

Can you expound upon that?

Mr. Renyi. Congressman, it probably is a very appropriate ques-
tion, I suspect that even a better person to respond to that would
be some Federal Reserve officers. However, from my perspective, as
someone who is regulated by the Federal Reserve, my experience
has been is that they would come in and review, in a very thorough
manner, I might add, the process upon which we organize and
manage our own organization. In certain areas such as credit ex-
tension, they take an even further and more detailed review of our
accounts.

One of the very basic components of a Federal Reserve exam is
reviewing the nature of the oversight process we have not only in

161

anti-money laundering or in Know Your Customer, but as well
every other facet of our management approach to the bank. So they
are very much intent on looking at our management team and
looking at the organization.

Mr. LaFalce. So their examination is more of system than ac-
count examination?

Mr. Renyi. That is correct. It is much more systemic, much more
process-oriented reviewing the reports that I might see, other mem-
bers of our management team might see.

Mr. LaFalce. One of the difficulties is if criminal enforcers are
reliant upon that examination, a systems evaluation is probably
the least likely to discover some type of wrongdoing, I would think.

Mr. Renyi. It would certainly discover if there was an3rthing that
was truly systemic or endemic in the organization. There would be
no question, I think, that the Federal Reserve and any regulator,
whether it is the Fed or OCC or even our own State banking regu-
lators in New York, would look at the situation to determine is
there a systemic issue. If it is a case where there is an isolated
issue with regard to a set of accounts, they may or may not pick
that up. That is something clearly our own internal auditors should
also pick up.

Mr. LaFalce. Let me ask you two more questions, if I might try
to ask them at the same time. On the one hand, we hold dear to
the principle that all individuals are presumed innocent until prov-
en guilty. On the other hand, you have to file Suspicious Activity
Reports, and I am wondering how you draw the line, you know,
where is the gray area, what do you do. That is the first question.

The second question is this: I know that there are bankers
groups that get together to discuss the appropriate use of deriva-
tives, and so forth. Is there a group of bankers that gets together
to discuss the approach that banks will take domestically and
internationally with respect to money laundering? And the reason
I ask this question is because if some banks are very, very rigorous,
they just might not get the business, and so some other banks
might be less rigorous and obtain the business. There could be a
competition for laxity, both domestically and internationally, and I
am just wondering if within the banking community there is any
coordinating mechanism, group of CEOs, and so forth, that gets to-
gether to discuss this. If everybody has to live by the same rules,
it is great. If somebody doesn't have to live or doesn't live by those
rules, they have an unbelievably unfair competitive advantage.

Those are two questions I would like you to answer.

Mr. Renyi. Let me answer the first, and that is with regard to
any cooperative efforts. Personally I am not aware of any efforts at
a chief executive or an executive management level, and I really
don't have — no, I can't identify a particular group within the U.S.
or certainly extraterritorial, outside the U.S., that meets specifi-
cally on any money laundering issues. I think it would be a very
good suggestion. It may or may not exist, and I would suggest that
possibly some of our compliance officers within our organization
who are attending these — we do have it, a local-level New York
clearinghouse, we do have committees that look specifically at
these issues.

162

Within the first question, with regard to SAR, and I think your
point is with regard to privacy, specifically the regulations sur-
rounding the Suspicious Activity Report filings require absolute
privacy, absolute confidentiality for, I think, the very specific rea-
son you are intimating here in that there could be a guilty-until-
proven-innocent view toward any accounts we might file an SAR
on. To that extent we are under strict guidance not to reveal filings
of SARs, and I suspect for that very specific reason.

Mr. LaFalce. Not to reveal to whom?

Mr. Renyi. Not to reveal to the public.

Mr. LaFalce. My question is whether you reveal them to the
public. You do file them. You are mandated to file them. Who do
you file them with, and how do you make the judgment as to
whether to file or not? If I go to, you know, three different case-
workers, and I ask in my district how many cases do you have, I
find out each of them has a different measurement as to what con-
stitutes a case. Some might say a phone call does, somebody else
might say it is not a case unless I have to work on it for at least
a week or so, and I am just wondering what goes on in your bank's
mind in determining whether or not to file a Suspicious Activity
Report report, and is there any commonality that is enforced by the
regulators on this issue?

Mr. Renyi. Well, Congressman, I don't believe that there is, and
I don't know the regulations precisely, but I know what we do and
how we do it, which leads me to believe that there is not nec-
essarily a preset criteria of review that each bank must follow in
order to file an SAR. I say that because we have filed many, many
hundreds of SARs over the past year or two. Most recently, obvi-
ously, given the incredible oversight that the press reports and this
investigation has created, we are filing many, many more for sim-
ply the reason that we see that a particular account may have re-
ceived a debit or a credit from a name that we see in the press,
and to err on the cautiousness side, we would file an SAR.

Mr. LaFalce. Thank you.

Chairman Leach. Mrs. Roukema.

Mrs. Roukema. Mr. Chairman, you indicated in your introduc-
tion that you had an element of awkwardness here because of the
status of the bank. I have another element of awkwardness here,
which I only learned about last night, and that is that Mr. Renyi
is a constituent of mine. I learned that last night. This makes ques-
tioning a little awkward, but I think we can speak frankly and di-
rectly in the interest of getting full information so that we can do
our job and that you can do your job. I recognize that the bank is
under investigation, but no charges, as you quite correctly pointed
out, have been made.

But it seems to me, with all due respect, I do have to point out
you just ended your discussion with Mr. LaFalce with respect to
the Suspicious Activity Reports, and I don't know exactly how this
fits in, but it seems to me that it should have been caught earlier,
because it was over a period of years, involving billions of dollars,
and with the fact that Mr. Berlin and Lucy Edwards, and officer
of the bank, were married. It would seem to me that there should
have been some understanding of the potential for the conflict of
interest. Can you tell me either how you dealt with that and why

163

you dismissed the need for the SARs to be filed and how you now
would apply it in view of the experience and the new knowledge
that you have in understanding?

And then I want to go on to the global pa3anent system.

Mr. Renyi. There are really, Congresswoman Roukema, there are
two issues I think you raised in that question, and that is, one, the
filing of an SAR, and then the conflict of interest. The SAR, to
begin with, during the course of those three years of activity within
those Berlin accounts, there is no question that people at a lower
level, people who are looking over the operations of that account,
raised issues, raised questions as to the validity or the rationale as
to why the volume, vis-a-vis an export/import company or a tour
company, of which he variously over a period of time identified
himself as, why that volume would exist. So that we do see people
in our organization, again retrospectively, who have identified an
issue, but not sufficient follow-through, and I think that is where
clearly the awkwardness, the embarrassment on our part, mine in
particular, as to why those individuals saw fit not to report that
up the chain of command which ultimately would have resulted in
an SAR, it did not get up to a level which was the compliance offi-
cer in those particular areas, and that is, I think, the awkward
question here, why an SAR was not filed.

Mrs. Roukema. How can we reform that system in this legisla-
tion that we are dealing with? I am an enthusiastic co-sponsor, but
I am not quite sure anything in this legislation will deal with tar-
geting that responsibility.

Mr. Renyi. That is very much of an internal issue, Congress-
woman. I don't think I saw in the brief read of the legislation pro-
posed elements that deal directly with that. Having said that, I do
think it is very much incumbent upon the organization itself not
only to have the process which we do, but the culture of being in-
quisitive, of questioning, of ensuring that every question that has
to be asked is asked, and that no assumptions are made. The fact
that people made an assumption that a well-regarded officer of the
bank referred these accounts, gave an ability of that individual to
be less concerned, that should not happen.

Mrs. Roukema. I think this bears more review and study by
those of us on the committee, but let me get to what you have quite
correctly pointed out very well.

I believe, although I am not quite sure, that I understand the
specifics of your recommendations about not only the nature of the
global payment system, but the increasing complexity of it. I think
you called it the opaque nature of it.

Mr. Renyi. Yes.

Mrs. Roukema. And of course the huge daily volumes are in-
creasing. I am not sure, have you given us some specific rec-
ommendations as to how we can deal with this legislatively, or is
it just through regulatory authority?

Mr. Renyi. I have not offered what I would call great specifics
or a great detailed recommendation with regard to the global pay-
ment system. Its characteristics of being huge, complex, immediate
and instantaneous in its style for some very explicit reasons, be-
cause of its size, because of the cost of errors, the high cost of er-
rors, the need for straight-through automatic processing also offers

164

it this opaqueness that I referred to in my remarks and in my tes-
timony whereby the information that is obtained from the global
payment system in terms of the remitter and beneficiary of pay-
ments is quite abbreviated, very much in the form of digital code
rather than more, in layman's terms, identifiers, words describing
who owns the account, where is that money going to.

There are some very good reasons for that to happen, because as
one puts words, sentences in direction and instructions as to where
moneys go, there is the greater opportunity for error, and therefore,
again, in an effort to ensure that there is a greater level of
straight-through processing or automation, there has been this re-
duction of information that one might see as usable.

Having said that, I think the core of my recommendation here
for the committee and the Congress to consider is access to the
payment system, because once access is granted, once an individual
has an ability to enter into the payment system, it is easily lost
track of because of the nature of the system.

Mrs. ROUKEMA. So you mean controlling the access?

Mr. Renyi. Controlling the access, having greater, maybe more
stringent requirements in terms of access to the system.

Mrs. RouKEMA. I think the Chairman's bill does go into some of
that. I don't know if it is as comprehensive as we might want to
make it, given what happened here, but we do begin to — and
maybe it is as much as we can do in that respect — make a lot more
unlawful about falsification of identity in transactions with the
banks. We will look at that again. Thank you very much. I appre-
ciate your assistance here.

Chairman Leach. Thank you. Marge.

Mrs. Maloney.

Mrs. Maloney. Thank you, Mr. Chairman.

The Bank of New York case troubles me for a number of reasons.
As we all know, the bank has played a ground-breaking role in the
history of American finance. For over two centuries New Yorkers
have entrusted the bank with their life savings. This is not a bank
whose culture would be expected to lead itself into the center of a
major scandal. The fact that such an incident would occur at such
a respected bank is frightening to me. We have to wonder if this
case is simply the tip of the iceberg.

While the guilt or the innocence of the parties involved is far
from determined, it would appear that insiders in the bank were
able to avoid detection until foreign investigators tipped off our
Government. In other words, our money laundering laws would ap-
pear to break down when confronted with insider dealing. Would
you agree with that, that our laws are not sufficient now, and they
break down with insider dealing?

Mr. REhfYi. Well, Congress woman, I would say that virtually any
law, virtually any regulation that would be imposed on any finan-
cial institution is at risk if there is, in fact, inside assistance. It is
awfully difficult to deal with many of these issues in any way, but
when there is the possibility, and I must be very careful here not
to imply that there exists in our case here, but if that were to take
place, it makes it even doubly difficult to deal with.

Mrs. Maloney. To what extent was your institution's anti-money
laundering policy reviewed by the Federal bank regulators? You

165

testified earlier that they were looking at the systemic rather than
actual transactions, but was there regular oversight, and was your
bank ever cited as insufficient?

Mr. Renyi. There has been regular oversight. The Bank of New
York has never been cited for inadequate anti-money laundering or
Know Your Customers policies. It should be obvious to everyone
that given the intense reporting with regard to this particular
issue, that regulators have redoubled their efforts in terms of re-
viewing our systems internally, and I am confident that we will do
well here.

Mrs. Maloney. Chairman Leach, as we know, as has been cited
earlier, is proposing legislation that would require financial institu-
tions that open U.S. accounts to identify the beneficial owners of
the accounts. It would also prohibit U.S. banks from opening cor-
respondent accounts with so-called brass banks that are not subject
to comprehensive home country supervision. How would these re-
quirements impact upon your bank's operations on a day-to-day
basis?

Mr. Renyi. Well, I think, Congresswoman, to respond succinctly,
quite little, because our business is not to do business with these
brass-plate blanks in these offshore areas. So greater scrutiny,
greater restrictions or requirements in terms of review of these
particular banks would have certainly no negative impact, and I
would welcome the opportunity to comply with those.

Mrs. Maloney. The requirement to identify the beneficial owners
of the accounts, would that impact on your day-to-day operations
at all?

Mr. Renyi. That may. I would need to know clearly a bit more
of the detail as in virtually every piece of legislation that would im-
pact the banking system. It depends upon the application, the
evenness of the application, which then goes to other banks pos-
sibly outside the U.S. banking system, and certainly our ability to
comply with those.

Mrs. Maloney. To what extent do you believe money laundering
is taking place in the United States banks, and what can be done
to prevent bank officers from facilitating laundering? You testified
that the two provisions I mentioned in the Chairman's proposed
legislation have little impact, but what would you suggest should
be done, and how extensive do you think?

Mr. Renyi. When I say little impact, I really mean. Congress-
woman, that it would not negatively impact the Bank of New York;
not the fact that it wouldn't be effective, but it would not pose a
problem for us to be able to comply generically with that approach.

But I think your question with regard to the presence or the size
of money laundering, that is an exceedingly difficult question, of
course, to respond to. I think one of the issues that I sense is being
debated here and that I offered as a possible public policy issue is
the definition of money laundering, the distinction between money
laundering and capital flight, some of which is, in fact, illegal, some
of which has no restrictions by the host country. There is also the
issue of being able to discern through the information that we
would normally receive in the global pa3nTient system moneys that
are sent to support legitimate business transactions or to support
business transactions that are structured in the way to avoid local

166

law, local taxes. That is a very difficult thing to distinguish in the
best of circumstances.

So the issue of money laundering, and I go back, obviously, to
our experience with these particular sets of accounts, given the
vast amounts of data that we have reviewed, it is very difficult to
determine which might be money laundering, which might be cap-
ital flight, which might be legitimate business transactions, and I
suspect it might very well be some of each.

Mrs. Maloney. My time is up. Thank you.

Chairman Leach. Thank you, Ms. Maloney.

Mr. Bereuter.

Mr. Bereuter. Thank you, Mr. Chairman.

Mr. Renyi, thank you. I heard your entire testimony and the
Chairman's questions from the side, if I wasn't here directly. I will
ask as many questions as I can here.

First of all, as I understand it, if a bank processes a transaction
knowing that it is designed to conceal or disguise the nature of the
proceeds, the bank could be charged criminally or have their char-
ter revoked. Did anyone at the management level in your bank
know of Russian money laundering through your bank?

Mr. Renyi. Absolutely not, Mr. Bereuter.

Mr. Bereuter. Thank you.

Now, Barclays Bank announced last week that it is closing a sub-
stantial number of its accounts to Russian corporate customers out
of concern that it cannot verify where funds are coming or going
to. Has the Bank of New York considered scaling back its presence
in Russia in light of the recent allegations of possible misuse of
Russian-related accounts at the bank?

Mr. Renyi. Well, Congressman, I think again you can imagine
the amount of review and oversight that is taking place within our
own organization, throughout our organization with regard to these
types of accounts. These types of corresponding relationships, it
does not simply focus on Eastern Europe by any means. Having
said that, clearly we are taking a second look, another look at each
and every one of our relationships to ensure that they do comply
with the highest levels of compliance, not only with anti-money
laundering, but Know Your Customer requirements.

Mr. Bereuter. Thank you.

Earlier, I think you gave a statistic of $3.7 billion from Russian
correspondent banks on a daily basis. Now, that would not include
corporate customers or other accounts coming from Russia or from
Russian citizens; is that correct?

Mr. Renyi. We do not have corporate accounts in Russia. Any de-
posit relationship that we have, which I referred to the $3.7 billion,
are strictly from the banking system. It is our policy only to do
business on correspondent banking business with regard to credit
and deposit-taking.

Mr. Bereuter. Thank you.

Do you have correspondent banking relationships with entities
domiciled in Antigua, Cyprus, and/or the Ca3anan Islands?

Mr. Renyi. With regard to Antigua, I believe we have one rela-
tionship. It is a relatively dormant one, very little transactions
flowing through it. Cayman Islands, I am not quite sure. I do not

167

believe we do. Cyprus, I believe we do, but I am not — I don't have
the precise figures. I will be happy to come back with those.

Mr. Bereuter. Thank you.

Has Mr. Bruce Rappaport assisted the Bank of New York in the
past in developing clients or other business relationships in Russia
or in Antigua?

Mr. Renyi. I understand the source of that question, given the
press reports, but I can say that there has not been any involve-
ment by Mr. Rappaport with regard to our Russian efforts. I think
it was — as it was reported in the press — he assisted us in establish-
ing our presence in Russia. That, in fact, was simply us being able
to sublet some of his space that his bank, the Inter-Maritime Bank,
has in Moscow for a one-year period. It does not go beyond that.

Mr. Bereuter. You mentioned him in your statement.

Mr. Renyi. I did.

Mr. Bereuter. You also mentioned his Ambassadorial role from
Antigua to Russia and so on.

You had a little discussion before based on Mr. LaFalce's ques-
tion related to the Suspicious Activity Reports, the SARs. Were any
SAR reports or potential reports suppressed by management in
your bank?

Mr. Renyi. Absolutely not, sir.

Mr. Bereuter. If you had a deposit of, say, in excess of $5 mil-
lion in currency coming to your bank, would it automatically or
likely generate an SAR?

Mr. Renyi. $5 million in currency?

Mr. Bereuter. Currency.

Mr. Renyi. Clearly would, absolutely. In fact, there is a regula-
tion of deposits of $10,000 or more in currency, a report must be
filed.

Mr. Bereuter. Thank you.

I want to understand a little bit more about the relationship on
Russian correspondent banks. Has the bank assisted any Russian
banks in attempting to open representative offices in the U.S.?
Have any applications been successful?

Mr. Renyi. We have, in fact, provided letters of recommendation
to certain of our correspondent banks in Russia to open offices in
the U.S. This has been part of the overall process of bringing the
Russian banking system to the West to be able to allow them to
conduct business along Western-styled banking. In some instances
we have made those representations, but, again, only to those
banks with whom we do business with and that we are comfortable
with.

Mr. Bereuter. But some would have been successful as far as
you know?

Mr. Renyi. I believe some of them may have been successful. I
don't know the specifics.

Mr. Bereuter. I have one more question related to correspond-
ent banks, if I may proceed.

Chairman Leach. Please go right ahead.

Mr. Bereuter. Thank you.

I would like to understand what kind of advantages or privileges
of services go along with being a correspondent bank to the New
York bank, especially, of course, those related to Russian cor-

168

respondent banks. What privileges or services do they have by vir-
tue of their correspondent status go through your bank?

Mr. Renyi. As a correspondent, the typical correspondent bank-
ing services that we offer certainly include dollar clearing, a prin-
cipal service and really the heart of our correspondent banking
business. In certain instances, we also might provide short-term
credit on an overnight basis. We might very well provide foreign
exchange transactions as well and possibly certain securities serv-
icing arrangements with that. In terms of privilege, we view it as
a privilege for them that they can list the Bank of New York as
a correspondent, because it is, in fact, I think, a very rare, very
privileged view that they can, in fact, use us as a correspondent,
effectively access to the banking system, and again speaks to the
diligence we do on a continuing basis.

Mr. Bereuter. Thank you.

Thank you, Mr. Chairman.

Chairman Leach. Thank you.

Mr. Forbes.

Mr. Forbes. Mr. Ren3d, again, thank you for being here today,
and I particularly appreciate that in your capacity you have taken
full responsibility for straightening out the situation that led to the
unfortunate revelations. And I think all of us were shocked that
this undertaking was transpiring at the Bank of New York, cer-
tainly a venerable institution, well respected not just nationally,
but internationally.

But let me just say that I learned today that more than I ever
realized that money laundering is extremely widespread in this
country, and that it is affecting far too many, and one is too many,
but far too many of our financial institutions.

Since these revelations, have you heard from some of your col-
leagues across the country as they have maybe taken a long, hard
look at their internal systems and lamented that perhaps they
could be as vulnerable as the Bank of New York was, and do you
have any sense in a way of validating what I think many of us
have grown to understand, money laundering is a very, very wide-
spread, serious problem in this country?

Mr. Renyi. Well, it certainly has piqued everyone's interest, Mr.
Forbes. I think there is no question, and I can say universally with-
out exception, every one of my counterparts that I have come into
contact with over the last five weeks have said that this has clearly
initiated a review internally. So if there is anything good that can
come out of this particular issue, that of Bank of New York being
the poster child for money laundering, unfairly I hope, certainly be-
lieve, then the fact that there is much more greater intention of
looking at intensive review of internal operations throughout every
bank in the country.

Mr. Forbes. Well, certainly an institution like the Bank of New
York, I have no doubt that perhaps this certainly caused you and
all of your officials to step back for a moment. I noticed in your tes-
timony, as you said, it is very difficult to identify, you know, origi-
nation and destination of accounts, and I know that the domestic
banking community has wanted very much to partner with emerg-
ing nations and particularly nations like Russia which are trying
to be more democratic and get more marketplace — free-market en-

169

terprises going, and particularly reforming the banking industry
there. But has there been consideration by your bank to suspend
any business with Russia or any transactions that would come
from Russia?

And just to add to that, and I know that is perhaps a pretty dra-
matic consideration, but I think you made clear also that it is very
difficult, for example, to track and review transactions that come
from some preset identifiers like Cuba and Havana and Baghdad
and Iraq, and I think the larger question is do financial institutions
in the wake of what has happened at Bank of New York and others
seriously consider that maybe there are some places where we just
don't accept transactions?

Mr. Renyi. At first — the last question in terms of is there an ef-
fort to seriously consider refusing transactions from certain coun-
tries? The short answer is yes. I think that it is a matter of what
is the risk and can we really accept that risk. And I think it is
clear, given the circumstances here, that may very well be areas
that that is an unacceptable risk under any circumstances, and I
don't mean in terms of profitability or awards, but simply risk to
the organization, reputational risk, which is clearly what we have
here to deal with at the Bank of New York.

Mr. Forbes. On another approach here, you know. Congress has
this talent for when we see some kind of problem like we have seen
with the Bank of New York and money laundering, that, you know,
we want to go back in and rewrite some laws and make sure we
are tougher on those laws. And I embrace those efforts, but it is
hard not to think that maybe a good deal of this was tragic human
oversight as far as the supervisors go and certainly outright crimi-
nality on others' part. But did the system break down, Mr. Ren5d?
Do you think the system broke down?

Mr. Renyi. Congressman, my view at this juncture and time is
it is a preliminary review, given the fact that the investigation con-
tinues not only externally, but internally, that systems were in
place. They did not necessarily break down, but their implementa-
tion was far less than perfect. Clearly the implementation was
flawed. It allows us an opportunity, though, to enhance the sys-
tems, to be able to do what we can to take out the personal element
in the oversight. I think that generally is an approach that we con-
tinue to follow in getting enhanced systems with artificial intel-
ligence, behavioral analysis, so that we are taking the human ele-
ment out of it. We are also attempting to take the relationship ele-
ment out of it so that no one in the future has the ability to rely
on any one other member of the organization for comfort as to the
validity of a transaction or an account; the establishment of an
anti-money laundering committee, of very senior people throughout
the organization that has a mandate far broader and independent
than ever before, certainly in our organization and, I suspect, any-
where else.

Mr. Forbes. Thank you, sir.

Chairman Leach. Thank you, Mr. Forbes.

Mr. Lazio.

Mr. Lazio. Hello, Mr. Renyi, nice to see you again. I wanted to
ask you — I would like to clarify a few points, if I heard you cor-

170

rectly testify that the Bank of New York had no Russian corporate
accounts. Was that accurate?

Mr. Renyi. Banking accounts where we either extend credit or
accept deposits.

Mr. Lazio. ok. Wire transfer account.

Mr. Renyi. We would not have a wire transfer account. What we
would have would be the ADR-DR sponsorship relationships, which
are an administrative function. It is a processing function where
we do not accept deposits or extend credit.

Mr. Lazio. Of these nine accounts, I understand it that they
were controlled or in the name of Peter Berlin?

Mr. Renyi. Yes.

Mr. Lazio. How would you characterize those accounts?

Mr. Renyi. Those are U.S. domestic accounts. They are compa-
nies that are incorporated here in the U.S. We would view those
as domestic accounts, and, in fact, when they were opened, they
were opened by a Russian national who subsequently became natu-
ralized as a U.S. citizen. The business may be transaction-oriented
in an offshore, but it would be viewed as a domestic U.S. company.

Mr. Lazio. Now, let me ask you, is it possible for somebody, for
an accountholder who has got a wire transfer account, to execute
a wire transfer with a terminal off premises of the Bank of New
York without the knowledge or assistance of a Bank of New York
employee?

Mr. Renyi. We do have that service. It is a service that we, as
well as — and we have checked this — ^virtually every other bank pro-
vides this particular type of service, which is a software-based serv-
ice where we provide software for installation on personal comput-
ers, on-site locations which an individual can in fact initiate and
execute transactions of wiring moneys out of their account, out of
the bank to other accounts.

Mr. Lazio. Without the knowledge of the bank contemporaneous?

Mr. Renyi. Contemporaneous. What is done is clearly a due dili-
gence as it relates to who we are giving that service, offering that
service to, so that there is a criteria that we use providing for
whether that service is, in fact, appropriate for that individual or
that corporation. Once that is taken care of, once we have satisfied
ourselves, then that is done outside the bank without necessarily
Bank of New York personnel intervention. There is oversight as we
see the volumes, and as we said, we are instituting systems which
will then have an oversight of those accounts to determine wheth-
er, based on certain parameters, certain criteria, that will trigger
a specific oversight for that account.

Mr. Lazio. So there is sort of an historical review that occurs on
accounts, whether it is wire transfer accounts?

Mr. Renyi. That is correct.

Mr. Lazio. And could you just sort of describe briefly for me, if
it is your own knowledge, what the due diligence principles might
be for such an account?

Mr. Renyi. Knowing what business the individual is conducting,
the volumes, the amounts of, the volumes that that individual
would, in fact, be utilizing the service for.

Mr. Lazio. That request would be up front.

171

Mr. Renyi. That would be up front before the installation is
made.

Mr. Lazio. Does a bank require documentation up front as well?

Mr. Renyi. Certainly all those reports would be noted, the docu-
mentation in terms of certificates of incorporation, the legality of
that.

Mr. Lazio. Might you ask for documentation establishing wheth-
er a corporation or the entity is properly licensed in a particular
State?

Mr. Renyi. If required, if we know that a license is required,
then we would request that.

Mr. Lazio. And is there a system, internal system, in check?

Mr. Renyi. Again, there is tremendous reliance on the individual
and the relationship manager who was initiating that relationship
to deal with that.

Mr. Lazio. Now, this is an account, Torfinex?

Mr. Renyi. Yes.

Mr. Lazio. Do you know if the bank followed that type of protocol
on that case?

Mr. Renyi. Well, that is certainly part of the investigations that
we are going through right now. So I am really not sure I am at
liberty to talk specifically about that particular account that is sub-
ject to investigation.

Mr. Lazio. Let me ask you this last question if I can, because
this is a question that was raised yesterday involving Bruce
Rappaport, who has a very interesting background, and I am just
wondering if you can tell me what the present and historical rela-
tionship of Mr. Rappaport might be with the Bank of New York;
and if I could briefly follow on to that, if there has been a relation-
ship. To the best of your knowledge, has there been any attempt
by Mr. Rappaport to influence the hiring and placement of Bank
of New York employees?

Mr. Renyi. Let me address the latter question first in that there
has been no evidence, no instance of influence that Mr. Rappaport
has had over not only the bank hiring people, but also business
transactions.

Mr. Lazio. Could you answer the first question?

Mr. Renyi. Our initial relationship with Mr. Rappaport was as
he was a substantial owner of bank shares quite a few years ago.
It is now, we believe, less than 1.3 percent, possibly lower in terms
of relationship. At this juncture our principal relationship with Mr.
Rappaport is as a shared owner of a bank in Switzerland where we
have a 28 percent interest. He has the remainder.

Mr. Lazio. What is the name of that bank?

Mr. Renyi. BNY Inter-Maritime Bank.

Mr. Lazio. Thank you very much.

Chairman Leach. Mr. Barr.

Mr. Barr. Thank you, Mr. Chairman.

Mr. Renyi, according to reports, and I think these figures have
been gone into earlier, upward of $7.5 billion may have flowed
through nine suspicious accounts at the Bank of New York over a
three-year period beginning in 1996. Let us assume on the conserv-
ative side that it is $7.5 billion and not more than that. How much
would the bank have earned in various commissions, points, inter-

172

est income of any sort for that $7.5 billion flowing through its ac-
counts?

Mr. Renyi. We would have — the fees, the gross fees associated
with that would probably be about $500,000 per annum.

Mr. Lazio. What about interest on any of that money that was
parked for any length of time?

Mr. Renyi. To the best of my understanding is that this was not
an interest-bearing account.

Mr. Barr. So $7.5 billion would have resulted only in one-half-
a-million dollars total?

Mr. Renyi. Of gross revenue, yes, sir.

Mr. Lazio. Per year.

Mr. Renyi. Per year, out of a total of fee revenues. This would
be fee revenues, Congressman, and last year our fee revenues was
approximately $2.5 billion. It is a relatively modest account.

Mr. Barr. I am sorry, what?

Mr. Renyi. Relatively modest account, $500,000 in fees against
a total fee revenue of the bank of about $2.5 billion.

Mr. Barr. That is not inconsequential certainly.

Mr. Renyi. It is not inconsequential in its absolute terms.

Mr. Barr. Has there been any discussion at all with any Federal
officials of immunity for the bank, any agreement not to prosecute
any potential cases here for either committing illegal acts or failing
to take steps to prevent illegal acts, such as failure to file SARs?

Mr. Renyi. I am not aware of any immunity offer to the Bank
of New York in its investigation.

Mr. Barr. OK. Apparently, at least two individuals, Lucy Ed-
wards and Natasha Kokolovsky, have been terminated by the bank;
is that correct?

Mr. Renyi. One of them has, Lucy Edwards, and Natasha
Kokolovsky

Mr. Barr. Has been suspended?

Mr. Renyi. Is on a paid leave of absence.

Mr. Barr. Has she been suspended? Was that at her request, or
did the bank take that action?

Mr. Renyi. The bank took that action when the accounts in ques-
tion were closed and the investigators asked that we secure files,
and we felt it was in everyone's best interest that that take place.

Mr. Barr. Why was Ms. Edwards dismissed?

Mr. Renyi. When we were able to do our own private investiga-
tion, we reviewed her personal files and discovered paperwork that
gave us evidence that she misrepresented the bank in a number of
instances. Most particularly, we found out after the fact that she
actually had signing authority on one or several of the accounts. In
order for a staff member to have signing authority of an account —
other than their own personal account — requires the approval of
the chairman of the board. We have an annual code of conduct
questionnaire that must be filled out with an affiliation report.
Those affiliation reports that would have required her to disclose
that were never filled out properly, did not disclose that. That is
clear evidence, and a clear case for termination as violations of our
code of conduct.

Mr. Barr. She is married to a Russian businessman who con-
trolled nine accounts at Bank of New York; is that correct?

173

Mr. Renyi. That is correct.

Mr. Barr. And how long a period did that relationship exist be-
fore the bank finally terminated Ms. Edwards?

Mr. Renyi. Well, I believe we were not quite sure, Congressman,
when they were married. I believe it would have been 1992, 1994,
somewhere in that timeframe. So when she obviously married,
right up to the point of termination.

Mr. Bare. Are either of these individuals, Lucy Edwards or
Natasha Kokolovsky, under investigation by Federal authorities?

Mr. Renyi. I believe I would have to say it is not something I
can respond to.

Mr. Barr. Do you know? I mean, do you know whether or not
they are

Mr. Renyi. I do know whether there has been contact between
themselves and Federal investigators.

Mr. Barr. There has been contact?

Mr. Renyi. There has been contact.

Mr. Barr. With regard to the questions that has already come
up in several instances here today regarding SARs and the require-
ment that the Bank of New York has, as other financial institu-
tions, to file SARs under circumstances either laid out in the stat-
utes and then the forms with which, I presume, all of your bank
officers, including the names we mentioned today, are familiar?

Mr. Renyi. Yes.

Mr. Barr. Was there anything in these series of transactions
that we have been talking about here with Benex, for example,
that wasn't suspicious?

Mr. Renyi. The nature of these accounts, again through prelimi-
nary review since the last five weeks — the accounts, while large in
amount, did not in and of itself pose a reason for suspicion in terms
of either significant increases or changes in the flow through the
accounts, it didn't necessarily warrant that, but that happened to
be the judgment of an individual who followed those accounts on
a day-to-day basis.

Mr. Barr. Who is that?

Mr. Renyi. An individual in our service area, individuals in our
service area.

Mr. Barr. Do you know their names?

Mr. Renyi. Yes, sir.

Mr. Barr. I mean, you have gone back and looked at these, and
you are saying that — I think there is just an initial round of Fed-
eral subpoenas produced over 3,500 pages of transactions for just
one of these accounts with Benex involving huge sums of money —
and you are saying that there was nothing suspicious about these
transactions?

Mr. Renyi. No. I shouldn't — if I said that, I misstated myself.
Clearly in retrospect, after review of all of those transactions over
the three-year period of time, no question there was something sus-
picious about it, and this — in fact, we filed a Suspicious Activity
Report.

Mr. Barr. After this had already come to your attention?

Mr. Renyi. That is correct, during the course.

Mr. Barr. By the authorities?

174

Mr. Renyi. During the course of the three years of that, we did
not file an SAR.

Mr. Barr. Now, are you satisfied that, in the words of, I think,
our colleagues from the other side of aisle from New York, that this
was just a tragic human error?

Mr. Renyi. I believe that it appears to be, again, given my re-
views today, an element of poor judgment.

Mr. Barr. Why would these employees be terminated then if peo-
ple were just involved in a series of tragic human errors? You cer-
tainly wouldn't terminate people for that reason, would you?

Mr. Renyi. The people that were terminated were terminated for
reasons having nothing to do with the conduct of the account. Con-
gressman.

Mr. Barr. Nothing to do with the conduct of any of these ac-
counts, even the Benex accounts?

Mr. Renyi. That is correct.

If I can restate with regard to Ms. Edwards, Ms. Edwards was
terminated by us because of violations of the code of conduct sur-
rounding the fact that she did not advise us that she was a signer
for these accounts. She did not have any day-to-day activity or in-
volvement in these particular accounts.

Mr. Barr. So it wouldn't really be accurate to say that she was
not fired for any reason connected at all with the Benex accounts;
there is a connection there, is there not?

Mr. Renyi. There is a connection there to the extent she was a
signer.

Mr. Barr. Through her and through her husband.

Mr. Renyi. And did not reveal that.

Mr. Barr. And through her husband there was a connection ob-
viously.

Mr. Renyi. Yes, but that isn't necessarily grounds for termi-
nation.

Mr. Barr. But it certainly is grounds in retrospect for some rath-
er significant suspicions.

Mr. Renyi. Correct. That is not to be debated.

Mr. Barr. I just have a general question. Would you say that any
of the following are secondary to earning fees or making profits for
the Bank: One, protecting our Nation's security, is that secondary?

Mr. Renyi. Absolutely not.

Mr. Barr. Compliance with our criminal laws?

Mr. Renyi. Absolutely not.

Mr. Barr. And protecting taxpayer funds?

Mr. Renyi. Absolutely not.

Mr. Barr. Thank you.

Thank you, Mr. Chairman.

Chairman Leach. Thank you.

Mr. Royce.

Mr. Royce. Thank you, Mr. Chairman.

Mr. Renyi, in your statement you describe how certain proce-
dures that the Bank of New York follows to ensure due diligence.
Basically, I guess, one of those procedures is reviewing financial
statements and other regulatory filings.

Mr. Renyi. Yes, sir.

175

Mr. ROYCE. Reported yesterday is a story about the Bank of New
York's efforts to help a Russian bank sell shares to investors and
the way this aggressive pursuit was undertaken, but what is un-
usual in the story is that at the same time that your bank was
doing that, Inkombank, the Russian bank, was undergoing its own
review, and the financial status was being challenged in Russia,
and Russian bank regulators that were investigating the bank had
found that it had violated numerous rules, including inflating its
income. In fact, the report recommended curtailing the bank's oper-
ations, and the bank has since been declared insolvent. And what
is unusual here is, I think, the question, why would you pursue
under these circumstances this particular customer, and why
would you help it win regulatory approval in the United States to
sell its stock in the U.S. as American Depositary Receipts in 1996?

Mr. Renyi. Well, Congressman, the response is somewhat of a
lengthy one, because I need to go into just a little bit the nature
of the depositary receipt service that we offer, very easily confused
and misinterpreted, against the investment banking opportunity
where an investment bank would, in fact, sell securities or under-
write securities. In our case and in the case of any depositary re-
ceipt sponsor, what we provide is what I would call the plumbing
associated with the capital market transaction, where we are the
individual that provides information, provides the recordkeeping
for the legal transfer and registry of ownership of those securities.
We in no way underwrite, sell, or issue securities on behalf of any
of our clients that we are depositary receipt sponsor for.

Mr. ROYCE. Let me ask you another question. You stated in your
testimony that since the Bank of New York has been conducting its
own investigations, a vast amount of data has been examined, but,
quote, it is simply not possible for this data to identify the source
or legality of any individual transfer of funds once a bank grants
a customer access to its payment system. It is extremely difficult
to track the flow of funds or to stop a transaction before it happens.

Are there any steps that the Bank of New York has taken to
remedy this situation, or is it a foregone conclusion that we cannot
track the flow of funds under any circumstances?

Mr. Renyi. The issue. Congressman, I believe, is a systemic one.
It really lends itself to a discussion of the characteristics of the
payment system, not necessarily what the Bank of New York or
any other bank can or cannot do. What we are looking at is a sys-
tem which requires a tremendous amount of volume and speed and
automation, which, in order to ensure it takes place and it takes
place flawlessly, there is a significant amount of automation, and
therefore, the data that is provided in that system tends to be ab-
breviated. Therefore, what I was recommending in my testimony is
that the Bank of New York, as well as all of the members of the
payment system as supported by Congress, to ensure that access
to the system is really where the point of control exists, access to
the system, so that we must be much, much more diligent with re-
gard to ensuring who we do business with.

Mr. ROYCE. Well, thank you very much for your testimony.

Mr. Chairman, thank you.

Chairman Leach. Well, thank you, Mr. Royce.

176

To continue for a moment, does the Russian Central Bank have
an account at your bank?

Mr. Renyi. They opened an account, Mr. Chairman, in November
of last year.

Chairman Leach. Nothing before then?

Mr. Renyi. Nothing before then.

Chairman Leach. Do you have any sense that, as you know, we
are looking at this IMF issue in a particular timeframe, and you
referenced it earlier.

Mr. Renyi. Yes.

Chairman Leach. The Central Bank might have given deposits
to any of your correspondent banks; is that a possibility in your
system?

Mr. Renyi. I would suspect that it could very well be a possibil-
ity. That is a reason why I intensely looked at the volumes going
through those accounts for that timeframe. There was a press arti-
cle which indicated that several days after the IMF funding, bil-
lions of dollars flowed through the Bank of New York. To the abso-
lute best of my knowledge and review, that did not take place. The
numbers that I mentioned to you really were in support of that in
the context that $640 million, I understand, was the IMF advance
at that point in time. The moneys flowing through the account of
$3.7 billion may or may not have gone through any of those ac-
counts. It really would be again virtually impossible to tell. There
is no identifier with regard to IMF or any other type of govern-
mental moneys.

Chairman Leach. So all you know is that a number of Russian
banks had deposits at your bank, they had flows of funds that were
very large, but that they weren't terrifically out of proportion, but
they were slightly higher than the previous three months and
slightly higher than the three months after.

Mr. Renyi. There was a continuation of that.

Chairman Leach. Continuation, so approximately the same
thing?

Mr. Renyi. Yes.

Chairman Leach. Part of this gets a little bit — and I wonder if
you could comment on this, to the definition of a bank. That is, we
use the word "bank." We all have in mind a bank in our hometown,
but it appears that increasingly Russian banks, as a few other soci-
eties in the developing world, are individually controlled, possibly
money laundering centers. Because something is called a bank
doesn't necessarily mean it is a bank in our description of the term,
and so of the banks that you have relationships with, would you
call these traditional banks, or would you say some of them
weren't? You had this issue of Menatep which was closed and an-
other Russian bank that was closed, and what I am getting at is
there any difference between the company Berlin controlled and
each of these individual banks or some of these individual banks,
and do you have a judgment on that?

Mr. Renyi. Mr. Chairman, I haven't looked at every single one
of the roughly 160 banks that we do business with today. That
clearly is a process that is under way, however.

In the traditional sense of a bank that I think generally the pop-
ulation here would consider of a retail branch, retail bank, clearly

177

there would have to be a number of those banks that would not be
viewed as purely Russian retail banks, but what I would more com-
monly describe as business banks, banks that are institutional
banks, banks that principally did business with other Russian com-
panies acting as their commercial bank.

Chairman Leach. Did you ever do security services for any of
these banks? For example, it strikes me — I visualize moneys com-
ing into your bank. I don't visualize them going out. That is, as
they go out, do they go to other banks, do you buy securities for
these?

Mr. Renyi. We would be — the sources of those funds clearly
would come from those banks' clients. Moneys — dollar funding, any
dollar assets that those banks would have would be in our bank as
well as other correspondent banks that those banks might have.

The flow out of those accounts could be for the purchase of goods,
for importation into Russia; it could be the purchase of securities.
In that fashion it could have gone to an investment bank, a broker
dealer, where maybe securities may have been bought. Some of
those moneys can flow to overnight investments.

Chairman Leach. You don't buy securities.

Mr. Renyi. We are not a broker-dealer, no, sir.

Chairman Leach. Do you have a sense — I mean, you are an ex-
pert in the banking system, and there are allegations that an in-
creasing number of banks in Russia are controlled by organized
criminal elements. Do you have a sense for that or not?

Mr. Renyi. I really don't, Mr. Chairman. Our diligence today,
certainly over the past several years, not only incorporates on-site
visitations to these banks, but also visitations to the Central Bank
and the authorities there to get, as best we can, a line, if you will,
as to the reputation, the local reputation, of those banks, of those
entities. If, in fact, during the course of those conversations that
type of conversation might have come up, clearly I would not nec-
essarily be privy to it, but I feel comfortable that those relationship
managers in the Eastern European area would have done some-
thing about it and closed the accounts.

Chairman Leach. Thank you very much.

Does anyone else have any further questions?

Yes, Mr. Lazio.

Mr. Lazio. I just wanted to ask this question, because I was
speaking to a representative of a global financial services company
who gave me the vignette that they once had one former New York
City police officer as their security, and now they have an entire
division, including recruitment of former CIA and former FBI offi-
cials. I am just wondering if that is an experience that has been
parallel to the Bank of New York, what your security system
looked like when you inherited the helm and what it looks like
now, with an eye to your suggestion as to what lessons can we
draw from this.

Mr. Renyi. Clearly, Congressman, one of the lessons we have
learned is to look at the staffing in those particular areas for what-
ever talent we can get not only from law enforcement, but also
from the regulatory and compliance area. So there is clearly an in-
tent on our part to recruit those people that we think can be of
great help to us with hands-on experience in precisely those areas,

178

and that is a difference from historical terms, where clearly we are
looking at — for bankers, in large part, we are now looking for peo-
ple in the infrastructure of our organization to preclude things
from happening as they may have happened here.

Mr. Lazio. From 1996 to 1998 when a lot of this account activity
occurred, what was the security infrastructure at the bank?

Mr. Renyi. We have a unit for physical security, physical and
data security as well.

Mr. Lazio. That is system wide?

Mr. Renyi. Enterprisewide, enterprisewide, made up of individ-
uals formerly from law enforcement, principally in the New York
City metropolitan area.

Mr. Lazio. You have since augmented that. Have you since en-
hanced that division?

Mr. Renyi. We have not from a physical security point of view.
We have augmented it from a data security point of view. Our at-
tention is certainly going to go to the physical security side as well,
principally in terms of liaison with law enforcement on a day-to-
day basis.

Mr. Lazio. Obviously there is significant concern in a sort of bor-
derless society, especially on the economics, and it becomes increas-
ingly difficult to regulate within borders and at the same time to
have confidence in our financial systems. It is going to require a
good amount of proactive engagement, voluntarily, on the part of
our Nation's best financial institutions. I hope you take leadership
on that.

Mr. Renyi. I certainly endorse that.

Mr. Lazio. Thank you.

Chairman Leach. Mr. Barr,

Mr. Barr. Thank you, Mr. Chairman. Just one quick follow-up
question.

When we were talking previously about SARs, I think you indi-
cated the bank had filed an SAR?

Mr. Renyi. On these particular accounts, yes, we did.

Mr. Barr. Yes. And do you have that with you?

Mr. Renyi. I do not.

Mr. Barr. Could you provide a copy to the Chairman, please?

Mr. Renyi. Certainly.

Mr. Barr. Within the next week?

Mr. Renyi. Absolutely.

Mr. Barr. OK, thank you.

Chairman Leach. Well, let me just conclude with one observa-
tion that has nothing to do with the Bank of New York, or probably
not, but it strikes me in the world where you have many societies
in which people in public life control — they have disproportionate
influence in the commercial and financial system, that if one does
a favor for someone of this nature, financial institutions can be
benefited in other ways. Or if one does not, one can be negatively
impacted, and there is an implicit kind of reward-punishment syn-
drome that can occur with public officials and their accounts
abroad. That becomes a very competitive circumstance, I would as-
sume, as well.

It just seems fairly obvious that if one is seeking the right to
have a distribution channel of one kind or another in a given coun-

179

try, it would be helpful to have the account of the President of that
country. This is something that is a very worrisome phenomenon,
I would assume. I don't know if your case, you have all of five em-
ployees in Russia, so you have not been seeking a larger presence,
although you do have accounts in a large number of Russian banks.

The only thing I would add to this is the magnitude of these dol-
lars is really stunning. International currency flows are of a vol-
ume that make even those of us who deal in Federal Government
spending difficult to comprehend. You have currency flows that al-
most equal on a daily basis the totality of the United States budget
for a year, and you have flows that come in and out of banks that
are of extraordinary proportions. But, nonetheless, when you look
at the issues of millions and billions applying to single individuals,
it does seem to be something that our system is going to have to
pay attention to.

I am struck with the likelihood that Mr. Renyi has described the
Bank of New York as a possible poster boy, but there is a strong
possibility that other institutions have similar kinds of accounts,
and that this is an issue that does take serious review. And I am
struck also with the observation of Mr. Renyi that if our country
moves in a given direction without bringing along the international
community, there can be difficulties, and we are all going to have
to be looking at these issues with great care.

But I would say that what Bank of New York has become part
of a transmission built for is something that goes beyond the bank-
ing matter, and when we look at the Russian issue and the future
of Russian society, we are looking at a vital interest of the United
States of America. So it means we are obligated to look at this as
more than an individual institution issue, as more than a United
States banking issue, but in the largest measure of the national in-
terest of the United States and how it intertwines with the best in-
terests of the Russian people. And that is why we have insisted
that your bank appear, not out of any reason to be pointing dis-
proportionate fingers at a particular American bank, but out of the
symbolism that these are stunningly significant world events that
have become centered in a financial system and then back down
into a particular institution.

I appreciate the difficulty of your testimony, and thank you for
your appearance.

Mr. Renyi. Thank you, Mr. Chairman.

Chairman Leach. Thank you, Mr. Renyi.

Our next witness is Ms. Anne Vitale, the Managing Director and
Deputy General Counsel of Republic National Bank of New York.
Ms. Vitale.

STATEMENT OF ANNE T. VITALE, MANAGING DIRECTOR AND
DEPUTY GENERAL COUNSEL, REPUBLIC NATIONAL BANK OF
NEW YORK

Ms. Vitale. Chairman Leach, Members, on behalf of Republic
National Bank of New York, I would like to thank you for inviting
me to appear today. As Chairman Leach said, I am Managing Di-
rector and Deputy General Counsel of Republic, where I have been
employed for nine years. As part of my duties at Republic, I am re-
sponsible for the development of Republic's global anti-money laun-

180

dering policy. Prior to joining Republic, I served as an Assistant
United States Attorney in the Southern District of New York,
where I prosecuted money laundering, narcotics and organized
crime cases.

Republic supports the efforts you have made in discussing how
financial institutions can protect themselves from attempts to laun-
der money through the use of the international wire transfer pay-
ment system.

Republic is committed to making every effort to ensure that its
banks around the world are not being used for illegitimate pur-
poses. I am here to share with you the policies and procedures that
Republic has developed in order to achieve that goal with respect
to international wire transfer activity.

Before a correspondent account is opened at Republic, Republic
obtains information about the foreign bank, which is detailed in a
seven-page questionnaire, a copy of which has been provided to the
committee.

The information that Republic obtains includes the names of the
owners and managers of the bank, its asset size, the identity of the
bank's regulatory supervisor, and a description of the procedures
the foreign bank uses to know their customers.

Republic began the process of designing systems to monitor activ-
ity through its correspondent bank in late 1997. In substance. Re-
public's system filters out certain transactions and captures pat-
terns of transactions which meet or exceed selected thresholds. We
then apply the combined judgment of members of the Know Your
Customer Committee to determine whether the activity may be
suspicious.

Republic is proud of its initiative in developing its wire transfer
monitoring system for correspondent banking. We believe that it is
unmatched in the industry. As stated in a letter that Republic's
chairman received from the FBI, Republic's wire transfer monitor-
ing system was found to be "highly effective in detecting wire
transfer patterns indicating possible illegal activity."

The FBI letter is attached also.

There are basically two t3T3es of wire transfers through cor-
respondent bank accounts. The first type of wire transfer is a bank-
to-bank transfer in which a foreign bank is making or receiving a
pajonent for its own account, for example, to settle a foreign ex-
change transaction.

There are approximately 92,000 bank-to-bank wire transfers to-
taling $306 billion in the average month at Republic. Republic's ex-
amination of bank-to-bank transfers has not over the course of fif-
teen months resulted in uncovering any significant pattern of activ-
ity that was suggestive to us of suspicious activity. For this reason.
Republic now excludes bank-to-bank transfers from its monitoring
program.

I should add that I have had conversations with Federal agencies
asking them if they had any suggestions for our system with re-
gard to bank-to-bank transfers, and everyone came up with the
same answer, that they did not know how to monitor that or how
to create a system that would detect a pattern for those transfers.

181

The second and more critical type of wire transfer activity is a
third-party transaction in which the foreign bank is making or re-
ceiving a payment for the benefit of one of its customers.

There are approximately 58,000 third-party customer wire trans-
fers totaling $65 billion in an average month at Republic, and Re-
public has focused on these third-party wire transfers in its mon-
itoring program.

Commonly, the role of a bank in the United States is an inter-
mediary one. There is commonly five parties to a wire transfer: an
originator, an originating bank, an intermediary bank, a bene-
ficiary bank, and a beneficiary. In most of the cases, Republic is an
intermediary bank. It does not have the account of either the origi-
nator or the beneficiary. Nonetheless, when the flow of funds be-
tween an originator and a beneficiary is significant in terms of
numbers and in terms of transfers, Republic seeks to capture that
data.

In order to produce a report that was manageable in size and
quantity of information, Republic set thresholds for the type of ac-
tivity that is to be captured. After trying various approaches. Re-
public designed a system to capture the following data: A same
originator to the same beneficiary three times a month, five times
a month, whatever the number is — and I must say that none of
these numbers have any special magic to them, and we vary the
numbers from month-to-month — ^but we are looking for more than
one, more than two, sometimes more than three transactions be-
tween the same originator and the same beneficiary and the aggre-
gate amount of the dollar transfer in one month being over
$500,000.

We also fluctuate the dollar amount. Sometimes we will go as
low as $100,000; sometimes we will raise it higher. We are still Ad-
dling with the system, and what we have found and what we are
concerned about is what I testified to here today, is not a blueprint
for individuals who want to circumvent a system. So we use vary-
ing dollar amounts as well as various figures to what constitutes
a pattern. But we are focusing on patterns.

Other type of pattern we focus on is the same originator to ten
or more or sometimes less than ten beneficiaries or vice versa, dif-
ferent originators to the same beneficiary, with a substantial dollar
amount that is somewhere in the neighborhood of $500,000.

Indeed, Republic, as I said, varies the amounts as it continues
to monitor, and sometimes we will look at an account and put abso-
lutely no thresholds in whatsoever.

Once a pattern is identified, Republic checks databases to see if
there is any information about the originator or beneficiary that
would support the legitimacy of the amounts and the pattern of the
wire transfer. For instance, if Republic discovered information that
established that an originator was a publicly traded company hav-
ing business activities consistent with the amounts and geography
of the transfer, Republic would document this information and take
no further action.

We access Lexis-Nexis, we access the Web to try and find out in-
formation about the originator and the beneficiary that appears on
wire transfers since neither of these entities are Republic's own
customers. If Republic has not been able to discover anything about

182

the originator or beneficiary that does have a significant pattern
that would justify the activity and the volume, Republic contacts
the originator or beneficiary bank who is our customer and inquires
about the purpose of the transfer.

This has been a process of educating our correspondent banks
that we need to know information as to the purpose of the transfer
that would make us comfortable with the wire transfer.

I want to stress the decision of the Know Your Customer Com-
mittee, which I am the chairperson of, is by no means infallible,
but it is our best efforts that we are putting forward to make a de-
termination based on the information that we are receiving either
as a result of public databases or information from our correspond-
ent banks.

In August of 1998, the programming generated a monthly report
for wire transfer activity through our correspondent banks, and
that particular activity took place in the month of July of 1998.
This report identified the accounts of Republic correspondent banks
which had patterns of activity and met the thresholds similar to
the ones that I described.

In August of 1998, as a result of its wire transfer monitoring,
and this was the first full month of transfers that we had received
from the new system, Republic discovered that substantial amounts
of funds were being transferred from one particular originator to
four beneficiaries. From the information supplied in the wire trans-
fer message, it appeared that the originator was a corporation
which had an account at a Russian bank. The Russian bank had
an account at Republic, and the four beneficiaries had accounts at
three other United States banks located in New York City. One of
the four beneficiaries was Benex, which had an account at Bank of
New York. In one month the total amount of wire transfers from
the common originator to the four beneficiaries was approximately
$22 miUion.

Republic was unable to determine any particulars about the one
originator and the four beneficiaries other than that information on
the wire transfers indicated that one beneficiary, Benex, was lo-
cated in Queens. After sending an investigator to this address, Re-
public was unable to confirm that Benex was, in fact, located there.
Republic informed the FBI and other appropriate authorities about
the wire transfer activity that I have described, and we made that
notification both telephonically with the FBI and FinCEN and in
writing by filing an SAR.

Since August 1998, Republic has continued to monitor for pat-
terns of significant activity that may be suspicious. It has reviewed
the patterns that are identified by its systems and documents its
determinations resulting from its reviews. If Republic is able to ob-
tain information that seems to justify the wire transfer activity, it
takes no action. If Republic is not able to obtain such information,
it reports the transactions to the appropriate authorities.

In some instances. Republic will cease processing transactions
that appear suspicious by informing the correspondent bank that
it will no longer process such transactions. At other times Republic
has ceased processing transactions with certain offshore havens. In
yet other instances. Republic has terminated its relationship with
specific correspondent banks.

183

The decisions, as I said, of the Know Your Customer Committee
are by no means infaUible. They are based, as I said, on the results
of the committee's best efforts to detect, report and prevent pro-
ceeds from suspicious activities from passing through our banks.

We report, I report, to a public responsibility committee of the
board of directors, and in addition to reporting to our general coun-
sel, to the chairman of the board. The public responsibility commit-
tee has taken an active role in reviewing Republic's wire transfer
monitoring system and its relationships with its correspondent
banks. That committee is chaired by William Rogers, former Attor-
ney General and Secretary of State for the United States.

In addition to the procedures in effect in the correspondent bank-
ing department, Republic has policies and procedures in effect in
each area of business. We have a written global corporate Know
Your Customer policy, which was codified in 1992, and which has
been updated regularly since that time, and that provides the basic
framework for our anti-money laundering efforts. I have submitted
that also to this committee.

I hope that I have conveyed to you the importance that Republic
places on its anti-money laundering efforts. In the course of my
nine years at Republic, senior management has been committed to
prevent the use of its banks as a vehicle to launder the proceeds
of illegal activity.

The Chairman Mr. Schlein and his predecessor Mr. Weiner, have
been staunch supporters of implementing the Know Your Customer
policy in all departments in all locations. Indeed, their commitment
reflects the views of Republic's principal shareholder, Mr. Edmond
Safra, who has repeatedly encouraged our efforts and stressed the
need for ongoing training in this area.

Two years ago, at his initiative, Republic convened a two-day
anti-money laundering seminar in which we called in outside ex-
perts, former Government officials from the United States, and a
former magistrate from Luxemburg, a former serious frauds pros-
ecutor from the United Kingdom, and we brought in 170 of our sen-
ior private banking officers from all Republic locations. Annually
we hold training classes for all our officers in all our locations. Ad-
herence to Know Your Customer policy and anti-money laundering
programs and procedures is audited, and adherence to these poli-
cies is a condition of employment.

Finally, Republic has a policy of cooperating fully with our regu-
lators, and I should say the OCC, which regulates Republic, has
been kept abreast and has encouraged our efforts in wire transfer
monitoring, and they have looked at both our correspondent bank-
ing before this system was in place as well as after.

We also cooperate with law enforcement, and I hope, as you can
judge by my presence here today, with Congress.

Thank you.

[The prepared statement of Anne T. Vitale can be found on page
405 in the appendix.]

Chairman Leach. Thank you, Ms. Vitale.

Let me just begin by asking, as you may know, several of us in-
troduced legislation yesterday that would require banks opening or
maintaining accounts for foreign entities to identify and maintain

184

a record of the identity of each person having a beneficial owner-
ship in the account.

Does this seem Uke a reasonable approach? Would it involve cost-
ly new efforts on your behalf, or do you do something rather simi-
lar today?

Ms. VlTALE. We do that now.

Chairman Leach. Does this appear to you to be common sense?

Ms. VlTALE. Yes.

Chairman Leach. It is my understanding that many banks do
this, but some don't, and it seems like it is a fairly reasonable thing
to require as a universal requirement. You are suggesting that that
does make sense?

Ms. VlTALE. I agree with that.

Chairman Leach. Second, you have correspondent banks. Do you
have many in Russia?

Ms. VlTALE. Yes, we do.

Chairman Leach. How many?

Ms. VlTALE. About 150.

Chairman Leach. How do you look at these banks? Are they
good banks? Are these accounts or banks? These are banks?

Ms. VlTALE. These are banks, and we have about 150 accounts
of those banks.

Chairman Leach. How do you monitor those?

Ms. VlTALE. Well, first thing, if you look at the seven-page pro-
file, that profile is a Know Your Customer profile. We get detailed
information on each bank. As I said, what we do before we open
it, and for Russia, I have to sign off on them. The business man-
ager, the head of the Russia and NIS region, has to sign off on it,
and for Russia NIS I have to sign off on it.

Once again, I am not infallible, and neither is our banker or any
institution, but we have a process in place that I think shows that
we are being duly diligent about knowing who these banks are. We
visit them every year, and we monitor the activity through our
bank, and that is what is new.

We started to monitor since — ^well, we tried monitoring starting
in late 1997, but until we developed a program that we have, the
reports of this activity were too voluminous to monitor. So we had
to form a system that would identify suspicious activity in terms
of volumes and in terms of patterns, and that is what we look on,
and we look at it on a montMy basis.

We have meetings once a week to review the activity in our cor-
respondent banks. Every month my department gets a report. We
give the report of the activity that filters out the non-patterns and
the bank-to-bank activity, and we review those, and we have week-
ly meetings that go on sometimes for two or three hours each week
to review the activity. The correspondent banking department has
its own compliance officer, who then is in charge of getting infor-
mation about some of the patterns that we see, talking to our cor-
respondent banks if she is unable to get information, and reporting
back that information to the committee.

Chairman Leach. A previous witness indicated that they had
given a hard review in a given period of time regarding a particu-
lar IMF loan. Have you looked at this period of time? Is there any-
thing unusual about it to you?

185

Ms. VlTALE. Yes. We have not seen IMF transfers of any signifi-
cant amount at all going through. One of the things with our wire
transfer report is to search for names appearing in the press. Now
I have a staff member who puts in the names appearing in the
press to see whether the wire has gone through Republic with that
name on it. We have not seen substantial IMF transfers. What we
have seen is very, very minimal.

Chairman Leach. What do you define as an IMF transfer?

Ms. VlTALE. We ran just recently the International Monetary
Fund, and they were a party maybe on 3,000 transfers.

Chairman Leach. It has their name attached to it?

Ms. VlTALE. Yes.

Chairman Leach. OK.

Mr. LaFalce.

Mr. LaFalce. Thank you, Mr. Chairman.

Ms. Vitale, you gave a very impressive presentation, and it would
appear that Republic is doing, based on your testimony in any
event, quite an excellent job.

Let me ask you this: You are regulated by the OCC.

Ms. VlTALE. Yes.

Mr. LaFalce. The Bank of New York is regulated by the Federal
Reserve.

Do you believe there is much of a difference in the regulation,
the oversight and guidance with respect to enforcement of our
money laundering laws?

Ms. VlTALE. Most of my contact has been with the OCC. We have
a resident examiner. The OCC has a policy of having resident ex-
aminers in the large commercial banks, and they have been very
proactive. Our resident examiner, I know, is a member of the
OCC's national money laundering group. I have worked very close-
ly with him.

Since we are also regulated by the Fed, because we are a bank
holding company, we also have Fed examiners come in to review
the holding company and the non-bank subsidiaries. I have not
interacted directly with those examiners, but I know Rick Small,
and I know the Fed has had a very conscientious approach to
money laundering as well, but I am just not as familiar with them.

Mr. LaFalce. Nor am I, but this is certainly something that I
am sure our committee will be pursuing. We want to make sure
there is rigorous enforcement through regulation and oversight and
investigation.

Ms. Vitale. The OCC has been rigorous.

Mr. LaFalce. That is what I have heard. That is what I have
heard.

Now, tell me this. You seem to have some excellent systems in
place. Did you devise those, or did the OCC give guidance that sys-
tems should be devised and we recommend the following at all?

What other banks have systems somewhat similar to yours that
you are aware of? Were you here also for my questioning of Mr.
Renyi?

Ms. Vitale. Yes, I was.

Mr. LaFalce. Then I would reiterate some of those questions I
asked him to you, too, to refresh your recollection. Are there any
groups of banks that get together to discuss money laundering and

186

ways in which they can combat money laundering activities? Is
there a section of the American Bar Association and their banking
law experts, a special subsection on money laundering that comes
up with this? Does the OCC or Federal Reserve or superintendent
of banks of New York have seminars saying to banks, you know,
look at three reports per day in excess of $500,000 with the same
name; 10 reports if they have different names in excess, and so
forth, and so forth?

What is going on out there, and what should go on out there?

Ms. ViTALE. The OCC knows about our system, and when I said
about trying to develop the criteria that I wanted to see the results
of, I checked with our resident examiner, and one of the things that
was suggested was a variance report, track each bank's volume
month to month, and when you see a variance, that will show you
something. That is a very valid tool when you are looking at indi-
vidual accounts of individuals or even of corporations.

We tried it. It did not work. The nature of correspondent banking
is just so broad that there are so many variables for activity. We
had a pattern, and we were looking at any variation over 35 per-
cent. It did not work.

Mr. LaFalce. Because of the time constraints, about how many
Suspicious Activity Reports would you file in a year?

Ms. ViTALE. On correspondent banking? We have done 25 since
we put this program in place.

Mr. LaFalce. Which is how long a period of time?

Ms. ViTALE. Since August of 1998. And these are significant.

Mr. LaFalce. OK. Now, do you know what is happening, how ef-
ficacious is this? What has happened to those?

Ms. ViTALE. That is why you are having the hearings.

Mr. LaFalce. We have this one hearing, OK. You were filing
Suspicious Activity Reports before August of 1998.

Ms. ViTALE. Definitely. But on correspondent banking, as a re-
sult of our wire transfer monitoring, it was August of 1998 that
started it. But yes, we were filing, and we file regularly when we
see violations. But most of those times it is in an account that is
a Republic customer directly. Through correspondent banking, the
originator or the beneficiary is not an account at Republic in most
cases.

But do you want me to answer your question?

Mr. LaFalce. Surely.

Ms. ViTALE. There are working groups. The Department of
Treasury does have a bank working group that gets together and
talks about issues regarding the Bank Secrecy Act. The clearing-
house in New York has working groups. Republic is a member,
along with other banks, in other working groups of compliance offi-
cers, so there are meetings and discussions.

Mr. LaFalce. Let me just ask you this. I remember meeting with
a group of physicians once, and it was a rather long lunch. We dis-
cussed many issues. All of a sudden they forgot I was there and
started talking about themselves. All of a sudden you heard about
this malpractice case and that malpractice case went on.

When you get together at these group meetings, do you become
aware that maybe certain banks are not doing what they should be

187

doing in order to detect violations of our anti-money laundering
laws?

Ms. ViTALE. I think different banks have different commitments
to it.

Mr. LaFalce. Is there a reason why one would have a lesser
commitment to it? Could it be profitable to have a lesser commit-
ment to it?

Ms. VlTALE. Well, I know the system we put in costs money. It
probably costs $500,000, and maybe even upward of that. You need
to have senior management sign off on a system like that.

Mr. LaFalce. All right. That is half-a-million dollars in the total
scheme of things, but could there be some enhanced business op-
portunities because of a laxer approach to enforcement?

Ms. VlTALE. I am sure there is a range of responses and a range
of reasons for it.

Mr. LaFalce. OK. I am searching for it. If you could ever help
me with that.

If I can just have one last question. When the IMF is going to
give assistance to any country in the world, we are aware of the
privatizations that take place, too, and the huge amounts of money
that are transferred at such periods of time.

Is there any mechanism for enhanced oversight and surveillance
of, say, privatization transactions and the flow of money from such
transactions?

Ms. VlTALE. When we look at the correspondent banking activity,
we don't know what is the reason behind the transaction. We know
a beneficiary, we know an originator, we know an originating bank,
and we know a beneficiary bank. We can go and look at databases
and see what we will learn about either the originator or bene-
ficiary who we don't know. If there are articles, if there is a busi-
ness news article about someone being privatized, then we learn
about it. But there is no way of capturing that until you go behind
the wire transfer.

You have to first know which wire transfers to look at, and be-
cause there are so many of them, the only way you could do that
is if you capture patterns, in my opinion. Once you capture a pat-
tern, you have to then find the answer or some information about
who the ultimate beneficiary and originator is.

Mr. LaFalce. Thank you.

Chairman Leach. Ms. Vitale, we have votes on the floor, so what
I would like to do is recess pending the vote. The hearing is re-
cessed pending the two votes.

[Recess.]

Chairman Leach. The hearing will reconvene. It has been a long
day, but I have just several more questions. There is much interest
in the issue of profitability and so you take the correspondent rela-
tions, 150 banks. We have a correspondent relationship say with
Russia and others around the world. How profitable is one of those
relationships per bank? I mean is it a million dollars a year?

Ms. Vitale. Per bank?

Chairman Leach. Yes. Is it less?

Ms. Vitale. I am not the right person to talk to in terms of num-
bers and profitability. That is one area that I don't have to worry

188

about. But no decision is made by Republic in this area on the
basis of profitabihty. It is nowhere near a milUon a bank, I know
that. Most of what I have seen has been maybe $5,000 a year per
bank, some banks may be $20,000.

Chairman Leach. As you may recall, there is a recent article in
the New Yorker Magazine, actually, several years ago, a journalist
by the name of Albert Friedman, he described your bank's role as
shipments of dollars to Russia, and the article contained allega-
tions that a large share of these funds were funded through imper-
fect Russian banks used to finance activities in perfect Russia insti-
tutions.

Are you familiar with this article? Does it carry legitimacy?

Ms. ViTALE. Mr. Chairman, that was in January of 1996. In Feb-
ruary of 1996, New Yorker Magazine issued a two-page response,
it contained six letters from the Department of Justice, from the
Manhattan DA's office, from the OCC, from New York State bank-
ing, FinCEN, and I forget the sixth one. At that time Congressman
Schumer had them placed in the Congressional Record, so they are
a matter of public record. Each of the agencies said that they were
not only aware of the bank note shipments that were made public,
but that there was nothing illegal about them, and that the infor-
mation in that article was not accurate. When this article was re-
printed in Paris, Republic sued and obtained a judgment for defa-
mation on that article.

Chairman Leach. So you are suggesting that sometimes the
press does not get the story right?

Ms. ViTALE. Yes.

Chairman Leach. Paris has some very interesting defamation
laws. Anyone in the public life somehow identifies with the judg-
ments against journalists. Anyway, it has been publicly reported
that your bank was responsible for the initial reports suggesting
that there was an account that involved the Bank of New York that
should be looked at; is that valid?

Ms. ViTALE. Well, we filed an SAR and before checking whether
I could say that, I ran it by the Department of Justice in New York
and the FBI, because as you know, there is a criminal sanction
against divulging whether you filed an SAR. But they said, yes, it
was already on the record, on the public record.

Republic filed, as I mentioned in my testimony, because it saw
one originator sending, I think it was over $20 million in one
month to four beneficiaries, one of which was Benex, and we could
not find anything on the public record about Benex that would jus-
tify that sum of money or about any of the others in the wire trans-
fers that we reviewed.

Chairman Leach. I appreciate that. And it certainly appears in
this case that your bank's diligence in this matter has been rel-
evant. I think it shows the import of these SARs in certain cir-
cumstances.

Well, thank you. I have no further questions.

Ms. ViTALE. Mr. Chairman, I read your bill. If I may, there is —
in the provisions you make an exemption for foreign entities for dif-
ferent jurisdictions, and I just want you to be aware of what I am
saying, some offshore banks being incorporated in one of the areas

189

that you have as an exemption, and that is the Republic of Palau,
so I would suggest you may want to look at that.

Chairman Leach. Well, thank you. I believe it is very construc-
tive advice. And I might ask that you feel free to write us a more
defined piece as well, if you have on this bill. We are certainly ap-
preciative of that. In this matter, your bank is clearly to be com-
mended.
. Ms. VlTALE. Thank you.

Chairman Leach. Thank you very much.

Our last witness today is Karen von Gerhke-Thompson of the
First Columbia Company, Inc.

And, Ms. Thompson, we welcome you, and please proceed.

STATEMENT OF KARON von GERHKE-THOMPSON, VICE
PRESIDENT, FIRST COLUMBIA COMPANY, INC.

Ms. VON Gerhke-Thompson. Thank you, sir. Mr. Chairman,
please kindly permit me to express how extraordinarily grateful I
am for the opportunity to appear before you today. This is a
unique, first time experience for me. I have not had the privilege
of appearing before a committee of the United States Congress, so
I thank the Chairman for this opportunity.

The gravity of the significance of this hearing, an inquiry into
Russian money laundering operations that may have tainted — or
may have been tainted by, contingent upon one's perspective — U.S.
banking and international financial institutions, cannot be suffi-
ciently underscored. The past five years of my life have been con-
sumed with who knew what when, relative to how all-persuasive
and how high corruption reached in Russia and its former satellite
republics, and why who knew what when was not reported to ap-
propriate legislative and judicial oversight committees.

I have been asked to give a brief summary of my background. I
am by profession a stockowner and Vice President of First Colum-
bia Company, Inc., a company established in the District of Colum-
bia in 1954. The First Columbia Company provides consultant
services in international marketing, strategic alliance formation
and government affairs to a host of U.S. Fortune 500 companies,
primarily in the defense industry, energy and environmental serv-
ices sector. Our clients in the defense industry sector include ITT
Defense International/ITT Gilfillan, the former Westinghouse Elec-
tronics Systems Group International, Boeing/Argo Electronic Sys-
tems Group, Raytheon Corporation, and AT&T Ocean Systems.
Other clients include, among others, Morrison-Knudsen Inter-
national, Westinghouse Environmental Services Technology Divi-
sions, Chemfix Technologies, Inc., National Environmental Control,
Separation and Recovery Systems, Coastal Oil Corporation and
Frank E. Basil, Inc.

Concurrently, I was a business partner of the late U.S. Attorney
John M. Mitchell, Chairman of Global Research International, and
a principal in the firm of Murphy and Associates, Inc., founded by
Admiral Daniel J. Murphy, U.S. Navy Retired and former Chief of
Staff to then-Vice President Bush.

My first fifteen years in Washington representing some of Ameri-
ca's finest corporate good citizens was both promising and lucra-
tive. To borrow my much often-used quote from Sir Winston

190

Churchill: "Washington is ever the city at your feet, or at your
throat." I think most of us who have lived in Washington have ex-
perienced this at one time or another, at least most of the people
I know have experienced it at one point.

Since my involvement with the Central Intelligence Agency and
my efforts to bring the issues of Russian money laundering oper-
ations to the attention of appropriate oversight committees, Wash-
ington has been ever a city at my throat. And my career has been
dormant.

Admiral Murphy warned me "never volunteer"; how sorely I re-
gret that I did not heed his advice. In April of 1993, I volunteered
my services as an unpaid intelligence asset to the CIA on a CIA
operation to penetrate what the CIA, FBI and Department of Jus-
tice knew was a KGB money laundering operation that had tenta-
cles that reached into the Kremlin to Boris Yeltsin. The target of
the operation was Alexandre Konanykhine, the U.S. Vice President
of Menatep Bank and President of Greatis USA, a public relations
and advertising firm that he alleged represented Menatep Bank,
the European Union Bank and Greatis Russia, among others.

Konanykhine alleged that he controlled $1.7 billion in assets held
by Menatep Bank, that he wanted to move out of Russia and East-
ern European countries into the U.S., Latin America and the Car-
ibbean. He alleged that Menatep Bank wanted to establish an off-
shore bank in Latin America and/or the Caribbean to protect its cli-
ents' assets and investment portfolios and to establish a bank with
an initial capitalization of $1 billion U.S. dollars, to obtain 100 nat-
uralized passports for preferred clients of Menatep who allegedly
held individual assets and investment and portfolios of $100 mil-
lion, 25 passports for employees of Menatep Bank and 15 diplo-
matic passports for very, very special clients of Menatep Bank at
any cost.

This project was brought to me by Carter Cornick, Eugene
Propper and Jonathan Ginsberg of the Washington, DC. based law
firm of Ginsberg, Feldman and Bress. Cornick, Propper and
Ginsberg wanted my help in assisting them in accessing officials
who could facilitate a favorable negotiation climate for the estab-
lishment of a bank and expedite the procurement of the passports.

The $1.7 billion Konanykhine wanted to move out of Russia
raised a red flag with me, no pun intended. Russia was in the early
phase of its transition from a command economy to a free market
economy. We had a pending $4 billion appropriation bill to provide
financial aid to Russia to assist them in their transition.

I telephoned a contact I had at the CIA who served as the direc-
tor of the Soviet Eastern division. His telephone call was returned
to me by a Mr. Z — and I am identifying these individuals by the
initial of their last name to protect their identities — who informed
me that the CIA was extremely interested in obtaining intelligence
on and monitoring the activities of Konanykhine and
Khodorkovsky, President of Menatep Bank.

Mr. Z informed me that I would be contacted by a Mr. V. On the
same day, I received a telephone call from Mr. V. He informed me
that the CIA believed that they were engaged in an elaborate
money laundering scheme to launder billions of dollars stolen by
members of the KGB and high-level government officials.

191

The operation was abruptly ended in September of 1993 when
Konanykhine telephoned his Washington associate Elena
Cidorchuk-Heinz-Volevok from Turkey to instruct her to terminate
the contract with First Columbia Company, Inc., and to cut off all
further communications with us. She cited Konanykhine's decision
to terminate the contract was based on his belief that I was a
phoney.

In April of 1994, I was advised by two CIA intelligence officers
that the operation had been compromised by convicted spy Aldrich
Ames. Mr. V corroborated that I had been compromised on the op-
eration. He personally had routed the traffic on the operation to
Ames who was responsible for monitoring money laundering oper-
ations at the CNC — the CIA's Counter Narcotics Center. An FBI
report submitted to the Senate Select Committee on Intelligence
confirmed that Ames and Konanykhine were in Turkey in Septem-
ber of 1993 at the same time, in the same location, and at the pre-
cise time that Konanykhine telephoned his assistant from Turkey
to terminate the contract with First Columbia Company, Inc.

A Senate Select Committee report on the damage assessment of
Ames' espionage activities also confirms that Ames was in Turkey
in September of 1993, where he attended an international counter-
narcotics convention and where, according to a Statement of Fact,
he turned over to the KGB classified cables and documents he had
downloaded from the CIA's mainframe computer onto his personal
laptop computer.

This operation was not reported to Congressional Oversight Com-
mittees as mandated under the National Security Act of 1947.
When it was not reported, it signaled me that it was a "policy" ver-
sus an "intelligence" failure, as is so often the case when senior ex-
ecutives fail to report significant failed intelligence or law enforce-
ment operations.

From my first date of contact with the Agency in April of 1993
through September of 1993, I worked with Mr. V or a daily basis.
It was evident to me, as would later be confirmed by Mr. Z, that
the CIA knew who Konanykhine and Khodorkovsky were and
where their money laundering trail led.

Konanykhine was a known KGB asset running a KGB money
laundering operation with stolen funds that were passed through
Khodorkovsky of Menatep Bank as a KGB-controlled front firm.

Konanykhine is on the top of Russia's most wanted list. He is
INS' highest profile case and the FBI's biggest quid pro quo with
the Russian Military Procuratura. Konanykhine was a KGB asset
conducting a KGB money laundering operation out of the Willard
Hotel in downtown Washington, DC. The money was being
laundered through Menatep Bank that is also alleged to be KGB-
owned and controlled, as is Menatep's wholly-owned subsidiary,
Yukos Oil. Khodorkovsky of Menatep Bank is the subject of the in-
vestigation into the Bank of New York's involvement in facilitating
the laundering of an estimated $10 billion, although I understand
those estimates range between $10 billion and $7.2 million. Some
of the $10 billion is believed to be money loaned to Russia by the
IMF.

Khodorkovsky and Konanykhine were also the subject of an in-
vestigation by the Federal Reserve Board of Governors for their in-

192

volvement in establishment of the European Union Bank in Anti-
gua, one of eight Russian banks in Antigua alleged to have been
established for money laundering purposes.

Here is a man who conducted not one, but two money laundering
operations out of the Willard Hotel directly across the street from
the Office of the President of the United States: the KGB money
laundering operation, and the European Union Bank, both of which
were undertaken by Konanykhine on behalf of Khodorkovsky of
Menatep Bank. The CIA, FBI, and the Department of Justice were
knowledgeable of the KGB operation and the Federal Reserve
Board was knowledgeable of the European Union Bank. Surely all
were knowledgeable of Khodorkovsky's involvement with the Bank
of New York.

Here is a man who first came to the United States as a member
of Yeltsin's first official meeting with President Bush, a man who
alleges he financed 50 percent of Yeltsin's presidential campaign,
who Yeltsin then rewarded with a dacha previously owned by Mi-
khail Gorbachev, and who Yeltsin allegedly authorized his then-
Chief of Security, General Korzackov, who I understand at the time
was a colonel, to assign a Kremlin security deal for Konanykhine's
personal safety and protection. Here is a man who was conducting
a KGB money laundering operation with tentacles that reached to
Boris Yeltsin that was penetrated by the CIA, the President's for-
eign intelligence operational arm, that was compromised by Aldrich
Ames, and no one told the Administration and no one reported it
to appropriate Congressional Oversight Committees.

I cannot remember the author, but I do remember reading a
quote cited by an author who is quoted by a senior State Depart-
ment official commenting half in jest: "There are no policy failures;
there are only intelligence failures and policy successes." There is
no jest here. The operation was a foreign policy failure, a see-no-
evil-at-any-cost, don't-fail-under-my-watch foreign policy of ap-
peasement, that in no small measure helped fuel the collapse of
free market reforms in Russia.

Russia was hemorrhaging dollars at estimates as high as $2.5
billion per month. The Yeltsin Administration and his new
oligarchs were bleeding the economy to near death. No tourniquet
was offered to stop the hemorrhaging. To the contrary, the Clinton
Administration was pouring billions upon billions of dollars into
Russia that only fueled the hemorrhaging. We knew it in 1993. We
may have known it earlier.

We watched it. We did nothing to stop it. We aided it and abet-
ted the corruption by fueling it with billions and billions of dollars
in foreign aid and international monetary loans. I am not a lawyer,
nor do I want to be one or, for that matter, be near one. I have
had my fill of attorneys. But, I would venture to guess that to
knowingly aid and abet corruption may be tantamount to being a
co-conspirator.

Exposing the failure of the operation would have undoubtedly
proved to have been politically unpalatable to both the Yeltsin and
Clinton Administrations and to the Central Intelligence Agency.

I understand my time is up, Mr. Chairman. And I thank you.

[The prepared statement of Karon von G^rhke-Thompson can be
found on page 451 in the appendix.]

193

Chairman Leach. Well, thank you very much.

Ms. VON Gerhke-Thompson. You are the only one left to ask
questions, sir.

Chairman Leach. Let me just thank you for your testimony. You
have gone through a very unique thing in your life, and it is some-
thing that the committee respects. It is always difficult to piece to-
gether circumstances from one individual's story. In fact, I am re-
minded of a novel of, oh, 30- or 40-years standing, called "The Alex-
ander Quartet," which is the same story told four different times
from four different persons' perspectives, and the kind of perspec-
tive you bring is important, because it indicates a perspective of an
American citizen not involved in a process, getting caught up in
something of some interest.

And I thank you very much for presenting it to the committee.
I have no questions.

Ms. VON Gerhke-Thompson. Thank you, sir.

Chairman Leach. Thank you. The hearing is adjourned.

[Whereupon, at 5:00 p.m., the hearing was adjourned.]

APPENDIX

July 21, 1999

(195)

196

CURRENCY

Committee on Banking
and Financial Services

James A. Leach, Chairman

For Immediate Release:
Tuesday, September 21, 1999

Contact: David Runkel or Andrew Parmentier
(202) 226-0471

Opening Statement

Of Representative James A. Leach

Chairman, Committee on Banking and Financial Services

Hearing on Russian Money Laundering

The Committee meets today for its fifth hearing on international financial issues this year and the
third on Russia and corruption over the last twelve months. The hearinp today and tomorrow will
be followed this fall by others dealing specifically with western financial assistance strategy,
including the International Monetary Fund (IMF), regulatory issues attendant to preventing
financial crimes, the depth of the crime and corruption problem in Russia, Russian use of off-shore
financial institutions and the intertwining of those institutions with US and other Western banks,
the role of public and private US advisors in Russia's transition to free markets, the role of the US
intelligence community in monitoring Russia's Central Bank and other monetary and banking
matters, as well as other concerns.

Today we will begin with an examination of recent allegations that corrupt Russian groups and
individuals have infiltrated Western financial institutions.

In this regard, we invited several witnesses who, according to various reports, have material
knowledge of these matters, but who have declined to appear voluntarily before the Committee,
including: Natasha Kagalovsky, former head of the Eastern European Division, Bank of New York;
Lucy Edwards, formerly with the London office of the Bank of New York; Bruce Rappaport,
Chairman and CEO of Bank of New York Inter-Maritime; Mikhail Khodorkovsky, Russian oil
industry executive; as well as the Chairmen of several Western money center banks.

As the hearing process continues it will be my intention to seek witness subpoenas, where
appropriate.

We also invited Caria del Ponte, the former chief Swiss prosecutor. She could not come because she
took up new functions at the Hague yesterday, but she sent us a fulsome statement outlining a new
aggressive Swiss policy toward the scourge of money laundering which involves a hard look at
Russian corruption. I invite the Committee's attention to her statement

iioi) ::f--047i

HOD ::(i-(>Ot:

197

I also invite the Committee's attention to a letter from tlie Honorable Yuri Skuratov, the Prosecutor
General of Russia who also was invited to testify. Mr. Skuratov notes that he is "unfortunately"
unable to come this week, but observes that he is "deeply convinced that the forthcoming hearings
will allow to develop valuable recommendations to the financial and law enforcement structure of
Russia and USA in counteracting to infiltration of dirty money into our financial systems."

Mr. Skuratov has offered his personal cooperation with the Committee's work. Significantly,
three days after receiving the Committee's invitation his apartment in Moscow was ransacked.

It is my intention that the first of our subsequent Committee hearings on Russia will focus on
Western assistance strategy for Russia and the possible diversion or misappropriation of those
funds. Last month, Mr. LaFalcc and I commissioned a GAO study to examine the effectiveness of
the S90 billion in Western assistance for Russia, particularly in light of problems of corruption and
the power of the so-called oligarchs. But recent developments warrant an additional in-depth
investigation of allegations of diversion or misuse of Western assistance.

In this contest, I would advise in the strongest possible terms that the Department of the Treasury
insist on a full and complete audit of the relationship between the Central Bank of Russia and the
IMF, particularly the activities of the CBR in the foreign exchange and treasury markets in the
period July-August 1998. Failure to do so would undercut any remaining credibility of
international financial institutions dealing with Russia. Likewise, I will request this week a full
GAO audit of US bilateral assistance to Russia, as well as a review of multi-lateral assistance
efforts.

The global payment system is opaque and anonymous by design, and has been made more so by the
technological advances of the past decade. The same technology that has produced such great
benefits for the financial services industry and the world economy as a whole has also made it
enormously difficult to trace the proceeds of illegal activity once a criminal succeeds in gaining
entry to the payment system. In an era where funds can be transferred among multiple accounts on
multiple continents in the blink of an eye, the challenges faced by law enforcement agencies,
regulators, and financial institutions in trying to track dirty money through the system are
enormous.

In this regard, one of the issues brought forth by the recent reports of large money flows of
questionable origin through western financial institutions is the legal obligation of US banks to
report such activity to appropriate authorities. Under current law, depository institutions are
required to file so-called "Suspicious Activity Reports" (SAR's) with the Treasury Department
whenever they become aware of suspicious account activity or possible violations of law. According
to press reports, it was the filing of a SAR by one of the banks that will be represented at these
hearings, Republic National Bank of New York, that helped alert law enforcement authorities to the
massive funds flows from Russia into other New York money center banks.

During debate on the financial modernization legislation that passed the House earlier this year, an
amendment was offered that would have effectively eliminated the Suspicious Activity Reporting
requirement. Several members of this Committee, including the Ranking Minority Member and
Rep. McCoUum, joined me in opposing the amendment, and it was defeated on a strong bipartisan
vote. I believe that the decisive defeat of that amendment reflected a general consensus in the
House of Representatives that banks must continue to be our first line of defense against criminal
enterprises seeking to launder their illicit proceeds by entering them into the legitimate financial
system.

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By the same token, in our zeal to shut off the dirty money that flows all too freely through our
financial institutions, we must be careful not to offend the legitimate privacy concerns that
Americans have when it comes to their financial affairs. There is a difference between reviewing
modest deposits American citizens place in depository institutions and multi-million dollar
transactions of unknown foreign nationals from countries where the rule of law is not well
established. The big picture is that law enforcement attention must be directed to activities of a
growing new international criminal class, not traditional American small business enterprises.

As recent events demonstrate, where large money-center banks accept sizable deposits and wire
transfers from overseas, particularly where those transactions originate in countries with minimal
regulatory controls or high levels of private or public corruption, it is critically important that
banks exercise due diligence in knowing who their customers are and whether their transactions are
legitimate. To do otherwise risks making the western fmancial system complicit in the endemic
corruption that has victimized so many peoples across the globe.

In short, the US must not only stand for the rule of law at home, but ensure that our financial
institutions do not contribute to or facilitate corruption abroad.

Accordingly, I am today introducing legislation that would significantly increase the transparency
of the international banking system and pierce the veil of secrecy that for too long has made it
possible for institutions and individuals operating in largely unregulated off-shore jurisdictions to
gain unfettered access to the U.S. financial system for purposes of legitimizing the proceeds of illegal
activity. The legislation would, among other things:

(1) require a financial institution that opens or maintains a U.S. account for a foreign entity that is
not publicly traded to identify, and maintain a record of the identity of, each direct or beneficial
owner of the account and help banks in that process by making it a crime to misrepresent the
true ownership of an account to a bank;

(2) prohibit U.S. financial institutions from opening or maintaining correspondent accounts with
so-called "brass plate" banks - most often in off-shore locations — that are not licensed to
provide services in their home countries and are not subject to comprehensive home country
supervision on a consolidated basis;

(3) eliminate a significant gap in current US law by expanding the list of crimes committed on
foreign soil that can serve as predicate offenses for money laundering prosecutions in the US,
including the misappropriation of IMF funds; and

(4) prioritize the issues of governmental corruption and insider self-dealing in the global fight
against money laundering.

(5) direct the US government to seek new international standards for OMney laundering, especially
as it relates to governmental corruption.

It is self-evident that the old models for combating traditional criminal activity by "following the
money" must be supplemented with new and innovative methods for addressing the increasingly
endemic corruption and cronyism that have come to characterize an alarming number of nations
■round the world.

The legislation that I am introducing today is intended to supplement and reinforce current money
laundering laws and is based on money laundering vulnerabilities identified in past hearings of this

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Committee by law enforcement ofTicials and recognized authorities on flnancial crime. I am
confident that other constructive approaches will be offered by Members of thb Committee and by
the Administration.

Indeed, I anderstand that later this week, the Administration will unveil its long-overdue national
money laundering strategy, which was mandated by legislation that originated in this Committee
and was championed by our distinguished colleague from New York, Ms. Velazquez. It is certainly
the hope and expectation of this Committee that the strategy will be a valuable source of guidance
as we fulfill our legislative responsibilities in the critical areas that are the subject of Ibis week's
hearings.

Money laundering may seem like a relatively modest crime, but it is a window into greater crimes
involving how illegal funds were accumulated in the first place. The allegations, for instance, that
American and European banks have facilitated money laundering for Russian organized-crime
figures underscore how intractable a problem corruption in Russia is and how vulnerable Western
institutions are to the lure of servicing one of the world's most virulent kleptocracies.

I first used the term kleptocracy in 1986 in relation to Ferdinand Marcos and the people of the
Philippines. The goal of Congress in the Marcos investigation was to return looted money back to
the Filipino people. Likewise, our aim in this case should be to shine the spotlight of accountability
on the problem of corruption and endeavor to help return looted wealth to the Russian people.

Russia is hardly the first country to be victimized by a culture of corruption. The plundering of the
Philippines under Marcos, the looting of Zaire by Mobutu and Indonesia's crony capitalism during
the last years of Suharto stand as parallels. What sets Russia apart is the pervasiveness of
politically tolerated corruption in a country of such sweeping geographic size and seminal
geopolitical significance.

The Russian government estimates that criminal syndicates control 40 percent of the economy and
perhaps half of the country's banking assets, though others put the figures higher. In any country
where political stability is questionable and legal protections of property are unreliable, those who
come to control wealth, legally or otherwise, can be expected to cast a "no confidence" vote with
their savings and shift their capital to safe havens abroad. In Russia, theft has exceeded investment,
resulting in a dramatic plunge - about 40 percent in the last decade - in economic activity and a
disillusioned and impoverished society.

The question is how the West should respond to this crisis. The American people have a vested and
humanitarian interest in helping the Russian people make a successful transition from communism
to democracy. But, there is no credible way to suggest that taxpayers should support assistance to a
government which allows insiders to recycle aid from the West in the form of laundered bank
deposits, personal investments in the stock market or Pebble Beach real estate.

Russia, the land mass most similar to our own, has been kept back for most of tbu century because
of the Big "C - Communism — and has been dispirited for much of this decade because of the little
"c" - corruption.

The struggle of the last half-century was to defeat the blasphemous social experiment called
Communism. The challenge of the next SO years will be to constrain the insidious societal cancer of
corruption and misgovemment The second struggle may well prove more difficult, because avarice
is a more fundamental aspect of human nature than the Communist precept that people are subject
to historical forces beyond the individual's control.

200

Government in the Communist era lacked legitimacy because it ruled without the consent of the
people. The new governing elite in Moscow has squandered the credibility it gained through
democratic elections and effectively delegitimatized itself by failing to protect citizens from the self-
serving greed of those in power.

Where should we begin? By enforcing our laws, issuing indictments if necessary. Such actions
might prompt Russian prosecutors to do the same, calling Russia's new class of thieving oligarchs
to account for domestic crimes more serious than international banking violations. We should also
emphasize retrieving stolen assets for the Russian people.

For the Russians' part, instead of propelling the flight of capital through a banking system that
increasingly serves merely as a platform for money laundering, they should establish community-
oriented banks and credit unions. No nation, after all, can prosper if it lacks institutions where
people can safely put their money and seek secure loans.

Russia would be well-advised in its own self-interest to seek the opening of branches of well-
regulated Western banks in which people can trust that their savings will be turned into loans for
local enterprises. In addition, Russian authorities may wish to consider imposing effective
restrictions on the ability of their companies to use foreign banks or offshore corporate structures
located in jurisdictions with inadequate financial regulatory systems. When western financial
institutions are used as conduits for illegal commerce, the rule of law can ultimately be expected to
prevail. But this expectation is not warranted when dealing with offshore financial jurisdictions
designed as havens for rogues and thieves.

Parenthetically, to the extent that Russian parliamentarians or others purporting to speak for the
Russian people accuse the Committee of overstating the problem of Russian crime and corruption
to score political points against the Clinton Administration or denigrate the Russian people, we
should keep in mind the following remark by President Yeltsin in a February 1997 speech: "The
criminal world has openly challenged the state and launched into open competition with it."

From an American perspective the principal issue isn't who lost Russia, but how can we save
Russian democracy. It would be an exaggeration to suggest that Russia is an economic Vietnam,
but it would not be to note that any sense of history requires that the US should take all credible
steps to ensure that the Cold War u not revisited. In this context, the question looms large: What
should we now do in the wake of a decade of failed efforts?

Our policymakers have an obligation to ensure that the corrosive impact of foreign corruption b
blocked from our shores. America may be as challenged today by the threat of a deterioration of
values - galloping corruption - as it was yesterday by the menace of Marxist ideology.

During the Cold War, when national security was the central concern, secrecy was of paramount
importance in protecting a country's citizens. Now that economic issues have become paramount,
transparency holds the key to protecting individual citizens.

in the final measure, America's challenges are vastly more manageable than Russia's. All we have
to do is show fidelity to time-honored values. What Russia must do is find a new set of values that
fits its people and times.

The 21" century may be disproportionately more about economic policy and the intertwining of
economics and politics in increasingly sophisticated markets. In this regard, US world leadership

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relates to our policy toward Russia and our policy toward China. In both cases, relations are rocky,
based in part upon the Kosovo war where Russia and China both felt they were unnecessarily
embarrassed for different reasons and also because of corruption which has imploded Russian
society and jeopardized the movement toward democracy in China.

Public service is about idealism, not self-enrichment. In Russia it appears there is a serious
breakdown in public ethics which has led to the development of virtual anarchy stemming from a
culture of corruption. When laws do not exist or are not enforced, governance becomes a black
hole.

The Committee's goal is to advance the cause of accountability in Russia and in the international
banking sector; to promote democracy and true free markets in Russia and to promote the return
of illegally or improperly diverted funds to the Russian people.

Now I want to speak directly to the Russian people.

As Chairman of a Committee of Congress, I would like to emphasize
that the American people believe that Russians are a great and heroic
people. No people on the planet have undergone greater deprivation in
this century than the Russian people, who were held back for decades
by a dictatorial creed called communism and today are being deprived
as a result of corruption.

The American people want to help the Russian people.

In this century, Americans and Russians together successfully fought
the greatest war of our times. World War II, against the forces of
fascism. Today we must ally to fight against corruption. We must
fight for the rule of law, for the Russian people to hold their
governmental leaders accountable.

This hearing is held to underscore the help Congress wants to give the
Russian people and reformers in the Duma. We want money stolen
from Russia by a new class of corrupted politicians and entrepreneurs
returned to Russia for the benefit of the Russian people.

Corruption should be punished, not fed.

uiminiHuimif

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Bern, September 14, 1999

Statement to the Committee on Banking and Financial Services

of the U.S. House of Representatives

for the Hearing on Russian iVIoney Laundering

September 21 &22, 1999

By Carta del Ponte
Federal Prosecutor of the Swiss Confederation

Mister Chairman,
Distinguished Members

It is a privilege to have an opportunity to contribute to your hearings on
Russian Money Laundering. On behalf of the Govemment of Switzeriand, I
appreciate the opportunity to submit written testimony for inclusion in the
record of these hearings on Russian organized crime and money laundering
activities. These are issues that should concern the \a\N enforcement
authorities in global financial centers throughout the worid.

I commend you for your timely efforts to bring leading US and international
authorities together to collectively share our experiences and engage in
discussing practical means to further develop intemational cooperation to fight
intemational crime. In Switzeriand, we are all aware that the scope and
depth of the problem can only be tackled through an intemationally
coordinated and dedicated approach. The task is awesome but through
continued dialogue and joint and cooperative enforcement efforts, we can
make it much less attractive for criminal elements in Russia or elsewhere to
use global financial markets to mask the illegal origins of funds.

In Switzeriand, we have long shared your concems over money laundering
and have consistently worked to insure that our laws protect our financial
system from abuse. We consider it our responsibility to ensure that our place
in the international financial system is not corrupted nor utilized for legitimizing
the profits of illegal activities. Generating huge profits through illegal activities
is only beneficial if those profits can be used for other purposes. For
example, a mountain of cash, regardless of the currency, has no benefit
unless it can be applied to other investments or to other purchases. If nations
are vigilant and work aggressively to prevent their financial institutions from
becoming a mechanism for funneling illegal proceeds back into the
commercial mainstream, we will not only succeed in combating money
laundering, but we will discourage people from engaging in large-scale
criminal acts.

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This explains the early priority that the Swiss authorities have given to the
fight against money laundering. This priority has been visible on three fronts:
strengthening of the Swiss criminal code; enhanced regulation of Swiss
financial institutions; and, increased cooperation with international
enforcement efforts.

In the mid 1980s, when global law enforcement authorities began to
appreciate the significance of money laundering to organized criminal
enterprises, Switzeriand made an assessment of the adequacy of its laws.
Unfortunately, like many countries, the Swiss criminal code did not sufficiently
address the threat presented by money laundering. As a result, Switzeriand
developed more specific criminal statutes to target this burgeoning
phenomenon. Therefore, after drafting a preliminary amendment of its
Criminal Code in 1986, Switzeriand has implemented several statutes and
regulations and taken other administrative actions that are specifically
designed to combat money laundering through direct enforcement,
domestically and through greater cooperation with intemational investigations
and prosecutions.

In the process of creating these new enforcement mechanisms, reference
was made to existing US law and collaborative discussions were held with our
US counterparts. Furthermore, the recommendations of the Financial Action
Task Force on Money Laundering (FATF) were fully implemented. The
process of amending the Swiss criminal code has been an evolving one. The
first step was realized in 1990 punishing the laundering of the proceeds of
crime, wherever the crime may have been perpetrated. It also established the
obligation of due diligence with regard to customer identification. In 1994
additional provisions were introduced addressing specifically organized crime
and the confiscation of assets. In 1997 the Swiss Money Laundering Act was
enacted, extending to all professional financial intermediaries the obligations
which already applied to the banking sector. Consequently, in July 1998, the
Swiss Federal Banking Commission adapted its guidelines conceming the
prevention and combating of money laundering. For its own part, the Swiss
banking sector had already taken substantial steps to combat money
laundering. Thus, since 1977, the Swiss banking sector has been obligated to
"know their clients" under the provisions of the Convention on Due Diligence.

As a result of the efforts of the Swiss law enforcement authorities and the
Swiss banking sector, Switzerland is considered a model among nations in
terms of the steps It has taken to combat illicit financial transactions, and has
been so recognized by the US law enforcement authorities. Over the past 1 5
years, the US bank regulatory approach to combating money laundering has
gradually moved closer to the Swiss model by moving away from burdensome
and questionably valuable transaction reports to a system of obligating banks
to have a greater understanding of their customers ordinary transaction flows
and to report occurrences that are out of the ordinary to the appropriate
officials. We applaud the United States for this transition and hope that in
time there is greater uniformity in the standards that apply to financial

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institutions throughout the world in connection with anti-money laundering
efforts.

However, national legislation alone cannot address problems which go
beyond national boundaries. The emerging global economy and its assorted
tools of instant electronic communication have created new opportunities for
legitimate economic pursuits and at the same time provided channels for
illegal purposes. As a result, we must remain vigilant to emerging criminal
practices and while we evaluate and adapt our domestic laws, we must do the
same on the international level as well, to maintain the appropriate level of
international collaboration in the face of such efforts.

Since 1959, Switzerland has actively participated in European initiatives to
combat international crime. Switzerland was an early signatory to both the
European Convention on Mutual Assistance in Criminal Matters, the
European Convention on Extradition and the Council of Europe Convention
on Laundering, Search, Seizure and Confiscation of the Proceeds from Crime.
Also, after concluding several bilateral agreements with the United States to
ensure cooperation in criminal matters, in 1973, Switzerland amended its
statutes and introduced the Federal Act on International Mutual Assistance in
Criminal Matters which went into effect on January 1 , 1983. This act is
significant because it allows Switzerland to provide assistance in international
criminal enforcement matters, without the existence of a formal treaty.

The 1983 Act and its underlying expression of a clearly defined political will
was put to a major test in 1986 in connection with the Philippine govemment's
prosecution of the Marcos case. Switzerland did not hesitate to honor the
request of the Philippine government to freeze funds allegedly taken illegally
by Mr. Marcos and members of his family and deposited in their names in
Swiss banks. In that case and in view of the evident legitimacy of the matter,
the Swiss Constitution provided the basis for cooperation despite the absence
of a formal treaty between Switzerland and the Philippines. A similar
reasoning was applied when the government of the Republic of Congo sought
help in tracing the assets of former president Mobutu. In that case,
Switzerland was the only country to reply favorably to Congo's request.

In addition, our investigation into the financial dealings of the brother of former
President Salinas of Mexico, led to the freezing of over USD 100 million in
assets. International co-operation with the United States and Mexico,
including 110 witness interrogations, was instrumental in the effective
proceeding of this case. It is now up to the Geneva prosecuting magistrates to
bring it to its conclusion.

These circumstances demonstrate a long-standing willingness to engage with
our international partners and have prepared us to confront the current and
future challenges such as organized crime of Russian origin.

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As early as 1994. Russia and Switzeriand concluded agreements on mutual
judicial assistance and police co-operation. These instruments were
complemented in April 1998 by a memorandum between the Office of the
Attorney General of Switzerland and the Office of the Prosecutor-General of
the Russian Federation aimed at strengthening co-operation against
organised crime and money laundering within existing national legal
frameworks. Switzerland and Ukraine signed a similar memorandum in April
1999. The two latter documents are designed to facilitate the exchange of
information concerning organised crime and money laundering. Ukraine has
also ratified most of the Council of Europe conventions concerning
international mutual assistance in criminal matters.

In 1998 Switzerland prosecuted Mr. A. Mikha'ilov, a well-known Russian
citizen, alleging that he was a member of a criminal organisation. The case
took place in the Geneva criminal court and set a precedent in Europe for the
number of letters rogatory issued by the court. In the course of the
proceedings against Mikha'ilov, the investigating judge in Geneva issued 21
letters rogatory to foreign states in the space of a little less than two years.
During the same period, eight letters rogatory were addressed to Switzeriand
concerning this matter. However, the case did not result in Mr. Mikhailov's
conviction, in particular because the intensity of international co-operation was
insufficient.

In the same year, the Geneva cantonal authorities followed up a request for
Judicial assistance by the Ukrainian authorities, which led to the indictment of
Mr. P. Lasarenko, former prime minister of Ukraine, on charges of money
laundering.

In November 1998, the Office of the Attomey General of Switzeriand received
a request for judicial assistance from its Russian counterpart concerning
suspicions of corruption of high-level officials of the Russian central
government. Switzeriand agreed to provide judicial assistance. The ensuing
inquiry in Switzeriand mainly concerned the cantons of Geneva and Ticino. So
far, it has led to a search of the premises of a large Ticino-based company,
which is suspected of having paid bribes to the indicted officials in order to
obtain large contracts in Russia (in particular the renovation of some of the
Kremlin buildings). In this context, orders were also issued to freeze several
accounts in Swiss banks. The Geneva Public Prosecutor also opened a
criminal inquiry into money laundering in response to the first results of an
investigation conducted by the Office of the Attomey General of Switzeriand,
of the letters rogatory which were issued on grounds of suspicions of
corruption.

In July 1999, the Office of Attorney General of Switzeriand blocked several
accounts in Switzeriand in response to another request for assistance from
the Office of the Prosecutor-General of the Russian Federation. This request
concemed various persons suspected - in Russia - of having embezzled vast
amounts of public funds with the aid of companies located in Switzeriand. In

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this case, premises in Switzeriand also were searched on the orders of the
Office of the Attorney General of Switzerland, and material evidence was
seized.

The cases outlined above - which are only examples - demonstrate that the
Swiss law enforcement authorities are willing to co-operate actively with their
Russian counterparts in the fight against organised crime and money
laundering, who work courageously under very difficult conditions.

Switzerland is one of the few countries so far to have carried out
investigations of such importance. Often in money laundering cases, only the
second and third layer of the laundering process take place in Switzerland,
whereas the predicate offence and/or the introduction of illicit funds into the
banking system take place in other jurisdictions. If these jurisdictions do not
co-operate the prosecution of cases in Switzerland is seriously hampered.

Switzerland appreciates the open co-operation it has enjoyed with US
enforcement agencies in the exchange of intelligence and police information
concerning Russian organised crime. We look forward to furthering these
efforts in future cases. Such co-operative efforts are essential when
combating this form of criminality.

Switzerland has established an office within the Federal Office of Police to
identify and analyse organised crime originating in central and eastern
European countries, and in Russia. In addition, the Swiss banking
supervisory authority, the Swiss Federal Banking Commission, maintains
particular contact with the US financial institution supervisory authorities
concerning alleged instances of money laundering.

The Swiss Federal Banking Commission takes alleged cases of money
laundering very seriously and pursues them very intensively. It also examines
the banks for compliance with Switzertand's strict obligations to exercise due
diligence. In this context it worths closely with numerous foreign authorities.

If I try to sum up on the lessons we can draw at this stage on this subject, I
would first like to recall a couple of facts and statistics: every year,
Switzeriand provides legal assistance in over 2000 intemational cases. In
1998 for instance. Switzeriand and the United States have handled bilaterally
more than 120 requests for Mutual Legal Assistance. In one of the more
publicized cases, Swiss authorities confiscated and shared with the US
Govemment over USD 160 million of Colombian drug money.

However, such good news should not lead us to believe that we have gained
the upper hand on money laundering and organized crime. On the contrary,
the very intricacy, magnitude and multifaceted nature of the intemational flow
of illicit assets, particulariy from Russian origin, calls for increasing
overarching co-operation, both in the refinement of our natbnal legal arsenals
and in effective collaboration of parent agencies, regulating bodies and the
financial sector itself. In implementing our duties as prosecutors, nothing less
Is at stake than the upholding of our democratic systems and the intemational
rule of law.

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LEGAL ANNEX

1 . Swiss legislation to combat money laundering

Swiss legislation to combat the use of the financial system for money
laundering has been progressively tightened over the last few years. Since
the 1980s, a series of laws and regulations have been implemented in the
form of penal and administrative provisions, and specific banking regulations
relating to banks and non-bank financial institutions.

1.1. Penal Code: Money laundering and lack of vigilance in financial
operations

In Switzeriand, provisions related to money laundering were written into the
Penal Code in two stages. First, money laundering and failure to exercise due
diligence became criminal offences on 1 August 1990, with the coming into
force of articles 305b/s and 305ter. These first provisions were followed by a
"second package" of amendments of the penal code which took effect in
1994.

Article 305b/s penalises obstacles to the "establishment of provenance, the
discovery or the confiscation of assets" proceeding from crime. The predicate
offence can be any crime under the penal code (no restriction to drug related
offences). Money laundering is also punishable if the underiying offence was
committed outside Switzeriand. Anti-money laundering legislation can also
apply to transactions in all tradable assets including, foreign currency,
certificated and uncertificated securities, precious stones and metals, as well
as claims and objects having intrinsic economic value. Convictions may be
obtained with respect not only to persons having knowledge of the criminal
origin of funds, but also of those who should have presumed such criminal
origin. Article 305ter of the Penal Code supplemented article 305/j/s by
introducing a general requirement for financial intermediaries to ascertain the
identity of customers through verification of "the identity of the beneficial
owner with the diligence that can reasonably be expected under the
circumstances" in the case of financial operations carried out in the exercise
of their profession. This due diligence requirement with respect to financial
transactions applies to all intermediaries who receive, manage or assist in
investing funds on a professional basis, including business lawyers. A second
package of amendments to the Penal Code resulted in provisions related
namely to confiscation (articles 58 ff. of the Penal Code, see below) and
organised crime (article 260terof the Penal Code, see point 3).

1.2. Banking regulations

An obligation to identify the client was first imposed on the banks in 1977 by
the Agreement on the Swiss banks' code of conduct with regard to the
exercises of due diligence. The Agreement has been updated several times
since. The cun-ent Agreement on the Banks' Obligation of due Diligence

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(CDB 1998) entered into force on 1 July 1998. The Swiss Federal Banking
Commission considers the CDB a minimal standard to which it refers as a
supervisory authority when interpreting the notion of irreproachable activity
which is a condition for granting and renewing a banking licence. The core
substance of the CDB consists of rules on the identification of customers and
beneficial owners. Articles 2 to 5 of the CDB are principally concerned with
verification of the identity of the contracting party and the identification of the
beneficial owner. They inspired the formulation of corresponding articles in the
Penal Code concerning lack of diligence in handling assets (article 305ter of
the Swiss Penal Code, cf. above) and Recommendations 1 0 and 1 1 of the
Financial Action Task Force (FATF).

In March 1998, the Swiss Federal Banking Commission (SFBC) adopted
modified Guidelines concerning the prevention and combating of money
laundering which came into force on 1 July 1998 (Circ. 98/1) to bring them
into line with the new Money Laundering Act (see point 2.3.) The prime
objectives of these Guidelines is to specify the intermediaries submitted to the
surveillance of the SFBC and to extend the duties of diligence contained in
the MLA of 1997. The SFBC Guidelines profile for example the kind of
transactions that should prompt banks to pay special attention and perform
supplementary checks: a non-exhaustive list of 30 pointers which may arouse
suspicion that money laundering may be involved is provided. This list may be
used to raise the awareness of bank employees, as described in FATF
Recommendation 28.

1.3. Comprehensive administrative legislation: the Federal Act on the
prevention of money laundering in the financial sector (Money
Laundering Act, MLA) of 10 October 1997

The penal law and specific banking regulations have made a major
contribution to increasing vigilance in the financial sector. They focus on the
banking sector, notwithstanding the fact that the provisions of the Penal Code
were designed to cover all areas of the financial sector. The Money
Laundering Act was introduced to extend to all professional financial
Intermediaries the obligations which already apply to the banking sector, and
to introduce the duty to notify the competent authorities of any suspicions they
may have regarding money laundering. These two dimensions amount to the
complete incorporation of the FATF recommendations into Swiss law.

1.3.1. Scope of the MLA

The Money Laundering Act applies to all financial intermediaries, whether
already subject to federal supervision before the entering into force of the
MLA or not. The category of intermediaries which are already regulated by
special federal laws and subject to federal supervision includes the banks, the
securities dealers, investment fund manager, and the life insurance sector
(article 2, paragraph 1 ).

All other financial Intermediaries which are not subject to any special
supervision under federal law also fall under the scope of the MLA (article 2

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paragraph 2). The law contains a broad definition of the financial activities
considered to be particularly vulnerable to money laundering. Article 2
paragraph 3 enumerates these activities in line with the FATF

Recommendations'' .

The law applies namely to payment services which are executed without the
involvement of a bank. Bureaux de change and similar organisations are
subject to the law, precious-metal dealers, and all asset managers which are
not already authorised and supervised by the Banking Commission.

1 .3.2. Obligations of due diligence

Chapter 2 of the law defines the obligations placed upon legal or natural
persons - namely the obligation to check the identity of the counter party to a
contract (article 3) and of financial beneficiaries (article 4), to make repeated
checks on their identity (article 5), the duty to clarify specific situations (article
6), the duty to obtain documentation and to record all transactions, the
obligation to declare suspicious transactions (article 8) and also organisational
measures (article 9). Suspicious transactions must be reported without
delay to the Money Laundering Reporting Office (MROS). Chapter 6 of the
MLA stipulates the penalties for failure to comply with the obligations provided
for in Articles 3 to 9.

1.3.3. Surveillance

The Swiss Federal Banking Commission (FBC) Is in charge of monitoring
compliance with the MLA by all intermediaries under its supervision. The
same applies to the Federal Office of Private Insurance (FOP) in the

framework of its supervision of insurance companies. The MLA does not limit
the supervisory powers given to the SFBC on the basis of the Banking Law.
An infringement of the MLA provisions can thus also lead to punitive
measures in accordance with specific surveillance legislation. In addition, the
supervisory authorities are required to inform the penal authorities if they are

'' "Persons who on a professional basis accept, keep on deposit or help invest or transfer
assets belonging to third parties shall also be deemed to be financial intermediaries,
particularly persons who:

a. undertake credit transactions (including consumer credit or mortgages, factoring, financing of

commercial transactions or financial leasing),

b. provide services related to payments, including electronic transfers on behalf of third parties.

or who issue or manage means of payment such as credit cards and travellers cheques,

c. trade, on their own account or for third parties, in bank notes or cash, money market

instruments, currency, precious metals, raw materials or securities (paper or other rights)
and their derivatives,

d. offer or distribute shares in funds, in the capacity of distributor of a Swiss or foreign

investment fund within the meaning of the Federal Act of 18 March 1994 on investment
funds, or in the capacity of representative of a foreign investment fund, if they are not
subject to a supervisory authority set up by special Act,

e. undertake asset management,

f. make investments as investment adviser,

g. keep or manage securities. *

210

aware of violations of penal provisions contained in the specific surveillance
legislation or in the Penal Code (including articles 305b/s and 305fer).

The Money Laundering Act requires all financial intermediaries to be
authorised. It enables authorised Self-regulatory organisations (SROs) to
implement the measures to combat money laundering in their sector of
activity. Such SROs must be authorised and are supervised by the Money
laundering control authority which is integrated into the Federal Finance
Administration. It is in addition responsible for directly monitoring compliance
with the obligations laid down in chapter 2 of the MLA for legal and natural
persons who are not subject to any other federal supervision.

2. Swiss efforts to combat organised crime

Organised crime is unfortunately a widespread phenomenon in contemporary
society. It is both highly complex in structure and multinational in character.
One of the main problems is that criminal organisations have succeeded over
the years in infiltrating political, economic and financial systems and in
Integrating their illegal operations into legal activities. Due to these particular
factors, organised crime is especially difficu't to identify, define and suppress.
Traditional enforcement techniques havf consequently been adapted and
improved with the aim of enab'^iq Switzerland to fight this new form of
organised crime effectively.

Swiss criminal law calls for sar jons against all offences that come under the
category of organised crimf . These include money laundering, corruption,
fraud, narcotics and amris trafficking, pornography, etc. It also facilitates
investigations into these offences. During judicial proceedings, the judge can
order the waiving of banking secrecy and obtain account information from the
bank concerned. Banking secrecy is therefore not an obstacle to the pursuit
and conviction of the perpetrators of organised crime.

On 1 August 1994, the Swiss parliament improved these laws by adopting a
series of articles aimed at combating organised crime (Art 260 ter, section 1
of the Penal Code (PC): Participation in a criminal organisation declared a
criminal act) and strengthening measures related to the confiscation of
assets of illicit origin, including the reversal of the burden of proof In cases of
organised crime (PC, Art. 58-60).

In 1994 also, the Central Offices for Criminal Police Matters were
established within the Federal Office of Police. They are charged with
conducting investigations into narcotics trafficking and counterfeiting, co-
ordinating the inquiry procedures between Switzerland and foreign countries,
and evaluating all information related to organised crime.

On the international level, Switzerland collaborates in the fight against
organised crime on several fronts. It is a member of Interpol and is thus

211

involved in all exchanges of information between police authorities.
Switzerland has ratified several international agreements, both bilateral and
multilateral, through which it has committed itself to providing mutual
assistance in criminal matters.

3. Swiss efforts to fight corruption

The Swiss penal code punishes both active corruption (Art. 288) and passive
corruption (Art. 315) with prison sentences. Currently, active corruption is less
severely punished than passive corruption. However, the relevant laws are
being revised with the aim of making the penalties more severe for active
corruption, as well as for the corruption of foreign officials.

On 17 December 1997, Switzerland signed the OECD Convention on
Combating Bribery of Foreign Public Officials in International Business
Transactions. Furthermore, Switzerland actively participated in preparing this
convention, in particular, by chairing the working group charged with drafting
the text of the convention. A bill containing a general revision of corruption
offences and the ratification of the OECD Convention is currently being
discussed in Parliament.

In addition, the Swiss Agency for Development and Cooperation supports
good governance and the fight against corruption in carrying out its projects in
developing countries.

4. International assistance in criminal matters offered by Switzerland

Switzerland provides extensive international co-operation in criminal

matters. Requests for mutual assistance in criminal matters are becoming
increasingly frequent in particular because of the growth of organised crime
on an intemational level (narcotics and arms trafficking, corruption, trafficking
in women and children). Switzerland co-operates actively with foreign judicial
authorities in providing extensive judicial assistance. Switzerland receives
approximately 2,500 requests from abroad for assistance each year. In the
large majority of cases, assistance is granted without any difficulty. The
execution of these requests often requires the sequestration of assets located
on Swiss territory and of bank documents relating to the alleged offence, and
their transfer to the requesting state. In this case, when all the conditions set
out below for assistance are met, the Swiss authorities can lift banking
secrecy.

Switzerland grants international mutual assistance in criminal matters on the
basis of:

• the European Convention on Mutual Assistance in Criminal Matters of

20 April 1959.

• the European Convention on Extradition of 13 December 1959.

212

• The European Convention on Laundering, Search, Seizure and
Confiscation of the Proceeds of Crime of 1 September 1993 (the United
States participated in the drafting of this convention but has failed to sign it
to date)

• bilateral treaties on mutual assistance in criminal matters such as those
concluded on 25 May 1973 with the United States of America, on 25
November 1991 with Australia, and on 7 October 1993 with Canada.

• the Federal Act on International Mutual Assistance in Criminal Matters

which came into force on 1 January 1983. This law permits Switzerland to
grant judicial assistance also to states with which Switzerland has not
concluded a bilateral agreement and which are not party to the European
Convention.

The conditions required for judicial assistance are essentially the following:

• Double criminality: The fact which forms the basis of the request for
judicial assistance must also be punishable as a criminal offence in
Switzerland.

• Speciality: The foreign authorities must commit themselves to use the
information transferred to them by Switzerland solely for the purpose for
which it was originally given. In particular, this means that the requesting
authority is not allowed to transfer information obtained in the course of a
mutual assistance proceeding to an authority of a different nature.

• Proportionality: A sufficient relation must exist between the crime under
investigation abroad and the requested measures in carrying out the
request for assistance.

• Reciprocity: In the absence of a treaty obligation, the requesting state
must guarantee that it will give a favourable response to a demand by
Switzerland for judicial assistance should the case arise.

Amendments to the Act on International Mutual Assistance in Criminal
Matters, which took effect on 1 February 1997, have eased the process of
assistance noticeably. In particular, they have clearly shortened the
procedures involved by limiting the possibilities of appeal and by reducing the
number of persons permitted to resort to these means to those personally and
directly affected by the mutual assistance measure. The revised Act also,
under certain conditions, permits the Swiss criminal prosecution authorities to
transfer information and evidence to a foreign penal authority on their own
initiative. Moreover, it has enlarged the powers of the Swiss federal authorities
to act directly when provisional measures must be taken, as well as in
complex cases or in cases of special importance.

5. Assets of dubious origin held by foreign heads of state and politicians

The Swiss financial centre, like other financial centres, is used by foreign
heads of state and govemment officials for investing assets. There have been
individual cases in the past of assets which were found to be the proceeds

213

from dubious activities such as coiruption or dishonest management of the
state.

In most cases such investments are spread across various countries and
financial centres. The problem is thus one of international order.

One specific problem arises with foreign heads of state in office as a result of
the immunity they enjoy under international law. Immunity under
intematlonal law protects heads of state - and their assets - from coercive
measures, in particular those under penal law for the time they are in office.

Switzerland has a very serious interest in preventing assets of dubious origin
from reaching its financial centre. However, if assets of dubious origin owned
by foreign heads of state or politicians nevertheless find their way to this
country, Switzerland takes measures in co-operation with the country of origin
to effect the blocking and restitution of the funds in question.

Responsibility for safeguarding the integrity of the Swiss financial centre lies -
as far as prevention is concerned - with the financial institutions in the first
place. The acceptance and management of certain funds can be in breach of
the Banking Law (Art. 3 lit. c: Guarantee of irreproachable business conduct).
Anti-money laundering legislation is applicable against money of criminal
origin (fraud, drug trafficking, see point 2.). If such money arrives in
Switzerland, the bank concerned must, on well-founded suspicion, report it to
the authorities and block the funds for five days. During this period, the
authorities consider whether or which further measures should be taken.

The Federal Act on International Mutual Assistance in Criminal Matters

(Art. 18) authorises precautionary measures if an application for intematlonal
mutual assistance is announced and the conditions for judicial assistance
appear to be fulfilled (see point 5.). In addition, pursuant to Art. 102 section 8
of the Federal Constitution, according to which the government (the Federal
Council) assumes responsibility for the protection of the interests of the
Confederation abroad, the Federal Council can in certain cases freeze the
bank accounts and assets of foreign persons.

The bank supervisory authority (Swiss Federal Banking Commission
(SFBC)) has refined its guidelines to require the banks to be especially
vigilant with regard to the acceptance of assets from persons with important
public functions and from persons close to them. The banks are prohibited
from accepting funds which they must presume stem from corruption or from
the misuse of public funds (SFBC circular 1/98).

Assets are often blocked in connection with an application for judicial
assistance on the initiative of a foreign authority, which must present or at
least announce a request for judicial assistance. Experience has shown that
the restitution of blocked assets poses difficult but not unsolvable problems, in
particular over questions regarding authorised recipients. In the case of the

214

Tormer rresiaent or the Hhllippines Marcos USD 550m could be returned to
the Government of the Philippines.

Switzerland is one of the few countries to have taken effective measures in
recent cases to block and restore to the rightful owners assets of dubious
origin held on the accounts of foreign heads of state and politicians. To
provide an example, one can cite the Mobuto affair, where Switzerland is the
only country of the 18 contacted by the government of the Democratic
Republic of Congo to have frozen all the known assets of its former head of
state.

215

* Honorable Mr. JamoK A. I^eiich,

reHEPAJIbiiAR Chairmui of the Cnmmitlee

nPOKyPATyfA On Banking and Hinancial

PoccMRcKoa ♦BAr.rAUMM Services, U.S. Mouse of
iMTwi rai. Mocu., RepreacnUtivcK

ii/i.m_^.

Dear Mr. l.each.

1 am oordially grateftil for your kind invitation to take part in the hearingM of the
Committee heeded by you on the issues of utili>sation of financial system oi the United
States by the Russian organized crime in order to Unmder ttic crime proceeds.

The theme discussed by the C^cmimiltee is of eq)ecially great importance for Russia
which is seeking now for ortimal economic, legal and organixatinnal measures aimctl iii
prevention of illegal ciqiital flows from the country and repalrialion of the illegally
transferred funds. Successful results of our law enforcement in combntting this evil will
mean the improvement nf Die life conditions for hundreds of thousands of Russian
nationals.

I am dci^ly convinced that the finthcoming hearings will allow to develop valiiHble
recommendations to the flnanoial land law enforcement structures of Russia ond USA in
counteracting to infiltration of dirty money into our financial systems. Rich experience
accumulated by the U.S. Congress m conducting similar hearings guarantees the
success.

Unfortunately, the legal status of the Prosecutor-Oencral of the Russian Fedcnainn
deprives me of the opportunity to take part in such hearings conducted by tlie l>ie( of
oth«sr uountiy. I hope that 1 will be able to contribute otherwise to the solution of noble
tasks determined by the Committee on Banking and Financial Services and by you .
personally, dear Mr. I..«ach.

Respectfully and sincerely. Yu. Skuratov,

'— Prosecutor-Oencral of the RF

216

Statement of Representative Judy Biggert (K-il)

Committee on Banking and Financial Services

Money Laundering and Corruption in Russia

September 30, 1999

Thank you Mr. Chairman.

I am pleased to participate in this morning's examination of alleged Russian
corruption.

Since August, serious charges of the laundering of billions of dollars have been
reported.

These reports include allegations that Russian President Boris Yelstin's own
administration may have benefited from the illegal channeling of huge sums of
money into foreign accounts.

These allegations are most disturbing because they begin to raise questions
about what actually has been achieved in Russia.

Have these allegations of corruption threatened Russia's domestic stability? Has
money laundering stunted the growth of true democracy in Russia? Has the
Kremlin itself doomed any hope for a solid foundation for a market-based
economy?

And what of U.S. shareholders and U.S. corporations who may have fallen victim
to this corruption?

The committee also should consider if these reports raise red flags with other
U.S. taxpayer-funded programs, such as loans guaranteed to Russia through the
Export-import bank.

Do we owe the American public a complete and full accounting of all Russian aid
programs?

I hope all of our panelists today will shed light on these questions and many
others as they provide their views on the Russian corruption problem.

I thank Mr. Leach for holding this very important discussion and look forward to
hearing testimony from today's panelists.

Thank you Mr. Chairman.

217

STATEMENT OF REP. JOHN J. LaFALCE

BEFORE THE COMMITTEE ON BANKING

AND FINANCIAL SERVICES

U.S. HOUSE OF REPRESENTATIVES

HEARING ON MONEY LAUNDERING, CRIME,
AMD CORRUPTION IN RUSSL\

SEPTEMBER 21, 1999

Mr. Chairman, thank you for holding these important hearings.

Recent press reports have revealed major problems in the areas of money
laundering, diversion of funds, and crime and corruption in Russia that have reached into
the U.S. banking system. The situation has called into question the efficacy of our
money laundering statutes and the monitoring capabilities of our international financial
institutions.

1 am very concerned with the serious allegations of crime and corruption in Russia
and the alleged infiltration of the country's goverrunent institutions by organized crime.
While we are not in any position to dictate how a country should run its internal affairs,
we are fully entitled to an accounting of whether the funds provided by international
financial institutions are being used for their intended purpose. These funds involve
significant U.S. taxpayer resources and it is our duty to ensure that they are not misused.

At the same time, I believe that our national security and the stability of the
world's financial system demand our continued constructive involvement with Russia.
As a democracy experiencing growing pains, and still purging itself of the political and
economic ghosts of its Soviet past, Russia needs our help. Isolating Russia, and isolating
ourselves fi-om Russia, is not the solution.

I see little to gain in the simplistic option some suggest of abandoning as
substantial and as troubled an economy as Russia's.

I recognize there are challenges to our continued engagement, and the memorable
words of Sir Winston Churchill more than a half a century ago still ring true: "I cannot
forecast to you the action of Russia. It is a riddle wrapped in a mystery inside an
enigma." However, as painful and fiiistrating as the process might be, I believe that the
ultimate payoffs fi-ora our continued engagement with Russia are greater than the risks.

218

It is, however, time to ask some tough questions and get the answers we need to
make this policy of engagement work better. We should continue to encourage economic
and political reform in Russia, but we should also impose tough conditions on the
assistance we give and find better mechanisms for monitoring compliance. Unless we
can obtain the necessary cooperation fi-om Russia to make that possible, our long-term
involvement could be at risk.

I do believe that there is one area of our policy that deserves particular scrutiny,
and hopefully will teach us some important lessons. A major part of what went wrong in
Russia was the decision to embark on a program to privatize state-owned enterprises.
Privatization itself can be of great benefit to a society. As I wrote in a letter to President
Clinton in March, 1995, it can serve two important purposes: (1) to achieve greater
equity and new opportunity in the distribution of a society's wealth and assets; and (2) to
restructure key resources, such as utilities, transportation, banks and trading companies,
to permit them to respond to market forces rather than government dictates.

I said then, and I re-emphasize now, that "the United States has an interest in
ensuring that economic opportunities provided by privatization efforts are widely
available ...in a way that allows greater access to the wealth of society... (A)n equitable
approach to privatization will help ensure a more stable economy."

But there is another approach to privatization ~ what I called "patron" or
"nomenklatura" privatization — and it is the road Russia took. Russian privatization has
come to mean the wholesale transfer of valuable state assets to a small group of tycoons
who are more interested in taking value out of the country than investing in it. This type
of privatization concentrates wealth and puts an economy at risk.

Secretary Summers, I would appreciate your analysis of what went wrong and
what we can learn about managing such situations in the future. And, Mr. Chairman, I
would also ask that the letter I mentioned and other statements I have made on the
privatization issue be inserted in the record.

Let me now turn to the specific issue of money laundering. Of the many public
policy challenges facing lawmakers, the law enforcement community, and regulators
today, none may represent as significant a threat to our financial system as money
laundering does. The wholesale "cleansing" of illegitimate profits derived fi-om criminal
activities reaches staggering proportions - by some estimates, between $100 and 300
billion in the U.S. alone, and nearly $500 billion - one-half trillion! ~ worldwide. By
comparison, this figure dwarfs the GDP of many small- to mid-size nations.

219

Press reports have now alleged that up to $10 billion of possible illicit Russian
money passed through one bank. However, the facts of this particular case are very
sketchy and the criminal authorities are investigating. It would be premature for us to
pass judgment on any aspect of this case without a fiill accounting of the facts. I look
forward to the findings of the current ongoing criminal investigations.

The Banking Committee last took legislative action on the money laundering issue
in 1994, when we passed the Money Laundering Suppression Act. Up until recently, the
emphasis on financial institutions' compliance with cumbersome paperwork requirements
worked against the effective enforcement of money laundering laws. The 1994 Act made
reporting requirements under the Bank Secrecy Act more meaningful and more usefiil to
law enforcement.

But even with these targeted changes, every so often we learn of egregious cases
that our regulatory system is supposed to catch but misses altogether. And often they
occur in vulnerable, emerging democracies like Mexico and Russia, places where the rule
of law is still, unfortunately, not fiilly consolidated. When the big cases strike, we begin
to wonder whether the regulatory system, our first line of defense, truly works.

I do believe, Mr. Chairman, that it would have been productive for us to examine
regulatory issues in this hearing, which are ripe for revisiting. I regret that the bank
regulators are not here, either today or tomorrow, to explain to us what may or may not be
wrong with our current regulatory system. I hope we will hear fi-om them in the not too
distant fiature.

220
APPENDIX

STATEMENT OF REP. JOHN J. LaFALCB

COMMITTEE ON SMALL BUSINESS

HEARING ON
"THE PRIVATIZATION EXPERIENCE: STRATEGIES AND IMPLICATIONS FOR

SMALL BUSINESS DEVELOPMENT"

April 14, 1994

The Small Business Committee convenes this morning to
examine the issue of privatization. It is an economic process
which U.S. policy supports, but there remains substantial
confusion about what it is and how it works.

It is imperative that we achieve a better understanding of
the policy implications of this important means of economic
transformation. Privatization carries with it the hopes of the
emerging democracies, for whom it is the primary vehicle for
creating market economies under a rule of law, and facilitating
economic growth and development. If accomplished successfully,
privatization can legitimately be expected to increase economic
efficiency and provide broad-based benefits to a country's
citizens. However, if poorly implemented, privatization may only
serve to channel resources to the same or different powerful
elite groups. The issue this Committee meets to consider is
whether privatization in practice lives up to its promise.

The worldwide push for privatization in the past decade
responds to both ideological and economic changes . Governments
once committed to state ownership as a matter of ideology or to
state-created enterprise as the quickest path to modernization,
now see privatization and expanded private markets as the best
means to increase competition, enhance efficiency, and meet
urgent infrastructure and development needs. Numerous Asian and
Latin American countries have made privatization a central
feature of broader market -oriented reforms and democratization
efforts, while reforms in Central and East European nations and
the republics of the former Soviet Union are virtually synonymous
with privatization.

Much of the hope surrounding privatization is based on the
encouragement and support for small business that it can provide.
Proponents herald privatization as a means for small-business
entrepreneurs in particular to create their own economic
opportunities and "grab a piece of the action, " and in the
process spur general development . The Enterprise Funds for
Poland and Hungary were one manifestation of this approach.

Yet, however well-intentioned, the privatization process has
not always resulted in equitable opportunities for citizens and
businesses who Wish to participate. Instead, we often see
•patron" or "nomenklatura" privatization, which allows an elite
with influence and power to control the outcome and rewards of
privatization .

In Mexico, the Indian uprising in the southern state of

221

Chiapas reminds us that, however significant a country's ect.iomic
reforms may appear, its success depends ultimately on significant
improvements in equity. In this case, Mexico's removal of
Constitutional protections against privatization of communal
farmlands was one of the sparks that lit the fire of political
reform nationwide. This morning we will hear more details
regarding the consequences of Mexico's ptivatization strategies
from our witnesses.

A world away from rural Chiapas, officials of the Russian
Republic are also engaged in massive privatization of state-owned
properties. Thousands of small businesses have been sold for
cash in public auctions, and a system of private vouchers has
been created to distribute ownership of medium and large-scale
enterprises throughout the population. Privatization of the bulk
of Russia's material wealth has set off a scramble for available
assets in which corrupt, criminal and even violent methods are
becoming commonplace .

In this environment, the persons who appear to have
benefited most from privatization are the former elite of the
Communist system, the "nomenklatura" of high-level economic
managers and former party officials with access to information,
political contacts and foreign currency. While even this
privatization may be preferable to continued state ownership,
surely we must strive to do better.

Countries as diverse as Chile, Malaysia and Poland have put
up for sale their airline systems, trading companies, banks,
transportation systems, telephone services, ports and power
systems. Throughout the world, privatization has raised hopes
for improved efficiency, reduced bureaucracy, new foreign
investment and greater prosperity.

Many of these privatizations appear successful in dispersing
ownership, enhancing efficiency and increasing competition. But,
as experience in Mexico and the Russian Republic suggests, other
privatization efforts have failed to show that private ownership
and operation are more efficient or respond better to consumers
and workers .

The problem may be, not that privatization per se is flawed,
but that we have developed little basis to measure success. Too
often, issues of social equity which should be central have been
ignored.

This morning we have a distinguished panel of experts on
privatization who will enlighten us on the process of
privatization, how it operates in various regions, and what the
successes and failures have been thus far. We will hear first
from Mr. James Waddell, Executive Director of the International
Privatization Group at Price Waterhouse. Mr. Wadell's
organization has recently developed a data base on privatization
for A.I.D.

Next, Mr. Richard Bamett is Senior Fellow and a founder of
the Institute for Policy Studies. Mr. Bamett is co-author of
the well-known book Global Reach and has recently published a
sequel. Global Dreama . Mr. Andera Aslund is Director of the

222

Stockholm Institute of Soviet and East European Economics and
currently is a Guest Scholar at The Brookings Institution.

Mr. Chris Whalen returns to our Committee bringing his in-
depth experience in Latin America and a particular focus on
Mexico and Chile. Dr. Lyxm Nelson is a professor of sociology at
the Virginia Commonwealth University. He spent half of the past
three years in Russia and recently published a study on his
research there entitled Property to the People.

Finally, Mr. Daniel Singer, Of Counsel with Fried, Frank,
Harris, Shriver and Jacobson, will provide the legal perspective.
He is a specialist for the Central and East European Law
Initiative of the American Bar Association and has traveled to
Poland to lend his legal expertise to the privatization effort.

223

STATSMSNT OF RBP. JOHN J. LaFALCB

COMMITTEE ON SMAIiL BUSINESS

HEARING ON
"PRIVATIZATION: "THE GOALS AND IMPLEMENTATION OF U.S. POLICY"

May 12, 1994

The Small Business Committee meets this morning to continue
its examination of the global privatization process and its
implications regarding business opportunity and economic equity
in the societies involved.

On April 14, the Committee heard from witnesses representing
practitioners, academics, and consultants. This morning we
welcome Administration witnesses as we focus specifically on U.S.
privatization policy: what our goals are and how we implement
them.

Privatization is a central tenet of the economic policies of
more and more countries around the globe, particularly since 1989
when Eastern Europe and the former Soviet Union began to
transform their centrally-planned economies to ones that are
market-oriented. However, there appears to be more concern
with the number of privatizations as a measure of success--more
than 8,500 in over 80 countries since 1980, according to the
World Bank--than with the quality and effects of the conversions.
Too much is at stake to make this merely a numbers game.

In my view, the way in which privatization takes place is at
least equally as important as the fact that it occurs.
Privatization can be a vehicle for either distributing the wealth
of a society more equitably or for unfairly concentrating that
wealth.

U.S. policy should recognize such differences, and strive
for the most equitable distribution of existing and potential
societal wealth as is feasible. I am concerned that U.S.
policy, as currently conceived and implemented, does not do that,
and may concentrate its efforts on the objective of privatization
itself, with little, if any, attention to who benefits and who
loses in the process. We see too much of the so-called
nomenklatura or patron privatization which excludes adequate
opportunity for a broader-based process that would enhance the
socio-economic conditions of the greater body politic--what I
would call: Empowerment Privatization.

Our policy must bring certain standards to bear, and those
standards must reflect the particulars of a country's experience.
Privatization comes in many forms and uses an array of methods--
bids, shares, auctions, coupons, etc. Perhaps no one method is
inherently preferable. Moreover, the conditions country-by-
country are vastly different. As Poland's former Finance
Minister Balcerowicz recently observed, how privatization
functions in a country depends on variables such as micro and
macro economic conditions, debt, human capital and their

224

interactions with political conditions. It seems reasonable,
then, to have multiple criteria by which to measure success
depending on the situation of the country.

However, we must not make the mistake of using criteria that
only look through the prism of economic data. At our last
hearing, one witness argued that Russian privatization has been a
huge success because "it has been a large transfer. . (and) there
are very many owners now in Russia." In contrast, another
witness pointed out that, while Russia's experience has been
quantitatively impressive, the economic figures mask the less
positive qualitative features of privatization. He noted that
"the promise of fair property distribution among the population
was not being realized, and the inadequacies of the privatization
program contributed iitportantly to the worsening of Russia's
economy and to the political conflict." This week the Financial
Times reported a deep crisis in Russia as output has plunged 25
percent. According to the reported poll, a majority agreed that
"privatization is legalized theft" and two-thirds of respondents
believed that privatization was "undertaken for the benefit of
nomenklatura and criminals."

Similarly, the New York Times reported in October 1993 that
privatization in Mexico has increased coitpetition among the
handful of families bying to be Mexico's wealthiest clan.
According to a quote in the report, "The booty of privatization
has made multimillionaires of 13 families, while the rest of the
population--some 80 million Mexicans--has been subjected to the
same gradual iitpoverishment as though they had suffered through a
war." While privatization income helped Mexico's Government
service its debt, it also caused 400,000 Mexicans to lose their
jobs.

The United States and other Western governments have offered
enthusiastic support for privatization efforts. But general
observations of this nature must be coupled with a note of
caution. Such caution is particularly inportant given what may
be increasing skepticism about our own motives. In Russia, for
instance, privatization policies have become linked in the minds
of many with the United States because of U.S. officials' highly
visible and public support for economic reforms. A number of
Western advisors to the Russian Government, reported one hearing
witness, are viewed by Russian citizens as representing U.S. and
other Western business and commercial interests. In fact, in
February this year, the Wall Street Journal reported that nearly
50 to 90 percent of the money in any given U.S. aid contract
directed to assist economic transformation in Russia comes back
to the United States in the form of consultants' fees. Given the
perceived link between reform and Western business interests, it
is plausible to expect that the United States could share the
blame for economic failures and dashed expectations that would
result from a privatization effort not sufficiently driven by
concerns for equity.

Similarly, press reports this week announced enormous public
disillusionment in Hungary with economic reform--and a resulting

225

nostalgia for communism that led to the former communists, now
the Socialist Party, winning 33 percent of the first round in
parliamentary elections. A similar resurgence of communist
support has occurred in Poland and Lithuania. This is certainly
not what U.S. policy on privatization has been trying to achieve.

It is time for us to ask some probing questions about U.S.
policy on privatization and how we implement it. In particular,
we must assess whether we are giving adequate attention to
analyzing the actual results of privatization efforts and
determining who in these societies is benefiting. We must also
determine who in the United States benefits from tax dollars
going for privatization overseas, and whether such commercial
concerns have too great an influence in the formation of our
policy or nonpolicy. Our criteria for success and for failure
must be made more explicit, and it is time to make any mid-course
corrections in our policy efforts that are warranted.

We are pleased this morning to welcome Administration
witnesses who are knowledgeable about, and intimately involved
with, privatization efforts worldwide. We will begin with
Dr. Carol Lancaster, Deputy Administrator for the Agency for
International Development. Next is Under Secretary of the
Treasury for International Affairs Lawrence H, Siumers .

We also welcome two Ambassadors from the Department of
State: Ralph R. Johnson, Coordinator for East European
Assistance, and Thomas W. Simons, Jr., Coordinator of U.S.
Assistance to the New Independent States. We look forward to
your presentations .

226

September 21, 1999

House Banking Committee

Russian Money Laundering

Opening Statement Rep. Carolyn Maloney (D-NY)

Thank you Mr. Chairman.

Mr Chairman, the allegations of money laundering at the Bank of New York have again
brought to view the serious challenges Russia faces in becoming a stable, peaceful participant in
world affairs

While the country has shed the inefficiencies of central planning, the prevalence of corrupt
elements in Russian institutions continues to restrict true market reforms from taking hold.

However, while a year ago the Russian economy resembled something of a black hole,
limited signs of recovery are emerging

The Russian Gross Domestic Product is showing signs of improving and the country is
expected to have a trade surplus this year. Of course, these developments must be viewed in the
proper context. They are the very small steps of a deeply troubled country.

In the long term, this progress will be lost without the development of an enforceable legal
framework In this context it is imperative that President Yeltsin and the Duma agree on a
national money laundering statute. Major reforms are also needed in the nation's banking sector.

Given the example that we are reviewing today, we in the US should likely review our
own anti-money laundering safeguards Where were the U.S. bank regulators as billions of
dollars were laundered through the Bank of New York?

Chairman Leach, while the details of this ongoing investigation have not been fully
revealed, the conduct of the Bank's regulator — the Federal Reserve — would appear to be a topic
worthy of examination by this Committee.

I look forward to hearing Secretary Summers' views on these issues as his important work
in battling the Asian financial crisis makes him a most appropriate Treasury Secretary for this
hearing.

Thank you Mr. Chairman.

227

Opening Statement by Rep. Royce

Hearing on Russian Money Laundering and the IMF

U.S. House Banking and Finance Committee

Tuesday, September 21, 1999

Secretary Summers, I am glad to see you and I commend Chairman Leach for holding
this timely and important hearing. What we are examining today is a very serious issue -
one that goes to the heart of U.S. -Russia relations. It is worth noting, however, that
Russian corruption and this Administration's response to that challenge, is not a new
issue.

In fact, three years ago, this committee held a hearing on organized crime in Russia and
the threat to international banking systems. We heard from representatives of the Federal
Reserve Board, the Financial Crimes Enforcement Network, the FBI, the Department of
Justice, and recognized authorities on Russia. During that hearing, I brought up questions
of extreme capital flight and accountability with respect to International Monetary Fund
loans. Specifically, I raised concerns about the lack of money laundering laws in Russia
and our inability to impose standards on foreign banking institutions. Further, I
questioned what guarantees we had that billions of dollars in IMF and international loans
to Russia reached their intended recipients and were not instead diverted outside the
country by organized crime.

Two years prior to that hearing, in 1994, 1 said, "Our aid to Russia should be conditioned
on assurances from both Russia's government and our own, that all is being done that can
be done in respect to monitoring and countering the growing threat of these crime
syndicates before they can choke off the infant democratic experiment in the former
Soviet Union. This is about countering a real threat to the chances for a successful
transition in the former Soviet Union, and it is about stopping an international crime
wave before it crests on our own shores." Five years and billions of dollars later, these
questions may have risen to the level of scandal.

Unfortunately, not much has been done in the last five years. IMF Managing Director
Michel Camdessus recently said, "it is impossible to determine whether specific capital
flows from Russia - legal or illegal - come from a particular inflow, such as IMF loans or
export earnings." Apparently, once IMF funds are released to the Central Bank, there is
no way of tracking where the money, in this case maybe $10 billion dollars, goes.

American taxpayers deserve better. However, The New York Times recently reported that
the Clinton Administration officials learned of allegations of Russian money laundering
at the Bank of New York five months earlier than they previously acknowledged. Yet,
the Administration continued to rally for more aid to Russia, even though they were fully
aware that these funds were not reaching their intended recipients - the Russian people.
Instead of making a genuine effort on critically needed structural reforms, the emphasis
was placed on touting feel-good stories about dubious success in the Russian economy.
So in the end, funds flowed to a Russia where corruption ran rampant, anti-money

228

laundering bills were vetoed by Boris Yeltsin, and politicians did little but throw up their
hands and say, "Well, this is just the nature of Russia."

What I am interested in finding out today is whether the Administration has, acquiesced
to the cycle of corruption in Russia so it could claim reform in name only. Policies that
turn a blind eye to real reform do irreparable damage to the process of democracy
building. This does a tremendous disservice to the people of this country and to the
people of Russia.

I look forward to hearing from our witnesses today.

###

229

Opening Statement by Representative Nydu M. VelAzquez

Hearings on Russian Money Launduung and thb Bank of New York
House Committee on Banking and Financial Services

Sq>tember21, 1999

Thaok you Mr. Chainnan. I would like to applaud you for holding thoae hearings in such
a timely manner. It is important that we in Congress demonstrate that we are serious about
stopping money laundering through our financial institutions. In this particular case, it is
important that we determine whether or not aid given to Russia was diverted to Russian
organized crime figures and eventually laundered through U.S. bunks.

However, I would like to focus on another problem that the Bank of New York case
highlights - that of money laundering and its relationship to drug dealing. In the United States
alone, estimates put the amount of drug profits moving through our financial system as high as
too bilhon dollars. As most of you on this Committee know. I have been working for more than
five years to improve our nation's ability to combat money laundering. Money laundering
provides the fbol for drug dealers and other criminals to ojierato and expand their activities,
which can have a devastating social and economic consequences on our communities.

Five years ago. my constituents came to me and demanded that something be done about
the drugs and drug culture in their communities. That's why, in I99S. I brought together local
and state law enforcement officials to discuss the efTects of money laundering and drug activity
on New York residents. From this Working Group came the conclusion that 10 order to combat
drugs, we needed to stop the flow of money to and from the drug dealers.

From the insights provided by this coalition. I drafted the *^oney laundering and
Financial Strategy Act," which was signed into law last year. This Act takes three important
steps in combating money laundering. First, it authorizes fiinding to help state and local officials
combat money laundering. Second, it establishes "High-Intensity Financial Crime Areas" (or
"HIFCAs,") which will help concentrate the law enforcement resources in the areas where Otey
are most needed. Finally, the Act mandates the Treasury Secretary to develop the first
conqirehensive national Strategy to combat money laundering;

The money lamidering Strategy mandated under the Act was due in February of diis year.
I am pleased to announce to my cplleagues today that, through the hard wotk of Secretary
Summers, the first compreheosive anti-monoy laundering Strategy in our nation's history is
re«dy to be unveiled. In fhct, the Treasury Department was ready to deliver the Strategy to
Congress at tbe end of last week, but I asked that it be pos^ned because Members were out of
town as a resalt of Huzrieane Floyd.

230

Pint of all. I would Ulce to congratulate Secretaiy Summers for bit hard work on the
strategy. From the begiimiog. he has shown that this Strategy is a priority fat hla Administration.
I would also like to thank Deputy Secretary Eizenstat. Undersecretary Jim Johnson, Deputy
Assistant Secretary David Medina, and Chief Counsel Steven Kroll.

I want to take thia opportunity to offer my sincere appreciation to my colleagues on this
Committee who supported my legislation and fought for it as if it were their owil I especially
want to thank Chairman Leach, Ranking Member LaFalcc. and Rqiresentatives Roukema,
Bachua. and King.

I have had the chance to make a preliminary review the document, and have determined
that the Strategy meets the requirements established under the Act. Although not perfiBct. the
strategy is an imjxirtant step in the right direction. And, ss many of you know, the second annua]
Strategy i« due in February of 2000, so we will have the opportunity to weigh-in with Treasury
and have the Strategy improved over the next few months.

These hearings and the current investigation of several Bank of New York accounts
highlight the need for a comprehensive anti-money laundering Strategy and dononstrate sevenl
important weakness in America's current anti-money laundering aystem.

One of the weaknesaes in the current system is the Isck of cooperation - both from the
standpoint of local, state, and federal law enforcement cooperation, and from the standpoint of
cooperation between the fnuncisl institutions ud bw enfisrcement officials.

Jn this case, the Bank of Now Yoik did not file a "Suspicious Activity Report" until after
the Justice Department had subpoenaed account records. Had Bank of New York officials been
diligent in filing the required reports, federal law enforcement o£Bcials would have had die
opportunity to act more qniddy.

In order for money lamtdering detection to work in die United Statea, there must be
cooperation between banka and law enforcement offldala. In most money laundering cases, the
banks are in the best poaition to know if illegal activities are taking place.

The anti-money laundering strategy addresses those issues and has listed among its
priorities enhancing the regulatory an cooperative efforta between firumcial institutiona and law
enforcement oCQciala, and die strengthening of cooperative effiirts between atate, local and
federal law enforcement officials.

Another problem with our current efforts against monqy latmdering ia the undenitiUzatiao
ofour current resourcea, which often leads to doplicatioii and inefficiency. Many times State and
local law enforcemettf offiolala do not utilize the reaouroes diat are available to tiiam through the
various federal agenoiea. (n sdditkm, (bderal law enforoemant agents frequently do not otilice all

231

of the federal reaounea at their dUspoaal. In fact, • 1998 OAO ropoit' found that 24% of the
fbdenl field agenta auiveyed were not even aware of the anti-naoncy laundering products and
•crvices offered through the Financial Crimes Enforcement Network ("FinCEN").

Becauaa the current federal anti-raoney iMWidering ofBces are apread out through varioua
agencies of the federal government, state, local, and even federal law enlbroement agenta are
unaware of how tfiese programs should interact, and. as a result, the current potentiol of our
nations law enforcement agencies ability to combat money laundering remains untapped.

One of the objectives of the Strategy ia to define the roles of each law enforcement
agency in the fight against money laundering; provide an outline as to how those agencies are to
cooperate, intenct, and avoid duplication; and to ensure that every agency ~ whether state, local
or federal - is aware of the resources provided by other agencies.

However, the most important aspect of the Strategy may simply be the development of a
comprehensive national policy. For the first time, the Strategy puts in writing the goals for our
fight against money laundering, and. more importantly, how the various federal agencies charged
with fighting money laundering should woiic together to reach these goals. This will help, not
only in the utilization of existing resources, but also will give the law enforcement community
focus in its battle against money laundering.

The Strategy should be seen as a blue print for building a coherent and effective anti-
money laimdering force. Without such a plan, the coordination of the various agencies would bo
impossible - which is reflected in the current lack of a coherent policy. Much like trying to build
a house without a blue print - it does not matter how effective your workers are if they are not ail
woriang from the same plan.

Thank you again Mr. Chatmian, and I look forward to hearing from our witnesses.

' "Mogoey Laundering: PinCEN's Law Enforcement Role Is Evolvtng," p. 25; June 1998.

232

Canereuwanian Maxhkc Wtttrs* SttttoiMt

Sepunber 21, 1999

House Banking and Financial Services Couunince

Bank of Neir York Money Laundering Hearing

I am not ai all shocked that we have to convene once again to address ifac most serious
Issue of money lyiwH^ring ja UniTcd States financial ic«iaidons. As many of your know, I have
woriced v«9cy hard on the money laundering issue, particularly as it relates lo dmg tnflicking. I
was an original cosponsor of HR. 400S, the "Money Laundering Dctenence Act of 199$* and bad
tauT amendments which were included in ihs bill.

I spoke in opposition to the Chicorp/Travdcrs merger due to the ongoing Depamnent of
Justice investigation into money laundering and oth«r potential financial crimes involving Raul
Salinas and Citibank. I've held press conferences and sent numerous letters to the Department of
Justice, the United States President, and Memben of the House Banking and Financial Services
Committee. I have appctnd on television shows and spoke on radio progranis to discuss money
laundeiing, drug trafficking, and their devastating impact on America's oomsnunities.

Last year, I inttoduced legislatioo to include money laundering as a priority when the
Federal Reseve considers bank ^>pl)cations for merged or acquisitions and I have recently
introduced the "Integri^ in Banking and Money Laundering Prevention Act of 1999" to help
eliminate money laundering in the banking industry.

The House Banking and Financial Services CommitiM has not done enough to ensure
diat our fitumeial institutions are free from abuse by alleged drug tiaSldoets such as Semyon
Mogilovich, one of the leading figures in the investigation of money laundering at the Bimk of
New York. My remarks today will fitcus on three problems with our cuirent anti-ffloney
laundering laws and legislative solutions to each.

Law enforcement officials have stated that one of the biggest problems they encounter in
money laundolng investigations, panicularly where there is as intemaiional flow of fbnds such
as the case where money flows from Russia through offshore accounts and then inn> accoums in
the United States, is the inability to reconstruct an audit trail for piosecutton purposes. This was
a major obstacle in the case of Raul Salinas and is an obstacle for law enforcemcDt in the present
money laundering scandal. I have identified two areas that should be addressed to aid law
■nfbrcement in money laundering investigarions. The first is prtipo^ maintenance of
concentxaiion accounts and Ute second is adequate documentation of die beneficial owner of
offihore accounts.

ConcennBiion aeoounta are business accounts majntained by a financial institution in
which funds fiom various sources are commingled. In July 1 997, the Federal Reserve Bank of
New York issued "sound practice guidelines" thai highlighted concentration accounts as a
weakness in money laundering controls. The federal Reserve reported thai ooncennation

233

acoouDts could "mask unusual iransaciioos and fksws* making it nearly impossible to ntablish
The ownership of all fiuub in a single acooum

During last year's money laundsnng hearings on
HR 4005 I asked Heiben A. Biem, a witness from the Federal Reserve's Board of Govenwrs
Division of Banking Supervisoit. about the potentiaJ for money laundenng through conceon^on
accounts. He stated that banking oiganizaoons should make sure that ihey have clcmr records
about f\md sansfers and if banks want to use a concentration account, also called a suspense, or
omnibus account, then they should keep proper records. My legislative proposal would require
that banks who use concentration accounts maintain all accounts in such a way as to ensure that
the name of ihe account bolder and the number of the account are associated with an account
activity of the account bolder This requirement will aid law enforcement and help lo protect
banks fiom money laundering abuses.

Similar attention must be paid to ofTshore accounts. Ofishore accounts are havens for
money laundeners and drug traffidceis. In die case of Raul Salinas, a phony ofEshore company
named Trocca was set up which allowed Salinas to hide the flow of illegal drug money, hi the
present cose, one of the key accounts chit)ugh which money is suspected of bebg laundered
bek>ngs to a company called Benex, which invesiigaton believe filtered money &r Semyon
Mogilovich, the alleged kingpin of Russian organized crime According to investigators, it is
likely to take months before they can sift throu^ the documents and penetrate the complex web
of oflishore companies and holding companies to determine precisely where the money came
from and where it went. My legislation would aid law enforcemem efforts by requiring
enhanced recordkeeping of the beneficiai owners of such of&hone accounts.

Finally, I want to address the penalties assessed against banks convicted of money
laundering. During an April 15, 1999 hearing on trends in money laundering, I asked a
Depanmem of Justice witness how many United States or foreign depository instJTutions had lost
their charter as a result of a conviction, or a civil penalty imposed for money laundenng. The
response I received fiom the U. S. Depanmeni of Justice is that "no U S or fbr«pn d^posJioTy
insdnirion has lost ha license as a result of money launderint^ activities in the United Staiy^ " My
legislation would give courts the ability to double the sentence against persons and insrimiians
thai violate United States anti-money laundering laws with rcspea to foreign high-intensity
money laundering aivas.

If we do not have the courage to addiess ibe practices of our financial instiiutionj the
money laundering abuses will only get woise.

234

EMBARGOED UNTIL 10:00am EDT
Text as prepared for Delivery
September 2 1,1999

Treasury Secretary Lawrence H. Summers
Testimony before the House Banking Committee

Chairman Leach, Ranking Member LaFalce, Members of the Committee, I welcome this
opportunity to discuss our financial policies towards Russia in light of recent reports and
allegations regarding corruption, capital flight, and money laundering. Given the crucial law
enforcement challenges these issues pose, and given our significant national security and
economic interests in Russia, it is certainly timely for this Committee to hold a hearing on these
matters.

Let me say at the outset, in the wake of recent allegations of money laundering through a U.S.
bank, that safeguarding the integrity of the American fmancial system is an absolute priority for
this Administration. We are committed to the fiill investigation of these allegations, to the
prosecution of any crimes uncovered, and to strengthening our capacity to combat future abuses.
We will continue to press Russia and other coimtries to put in place the laws and enforcement
capacity to combat money laundering and other cross-border crimes.

I would like to cover four topics in my remarks this morning: first, the broad context of our
economic and financial engagement with Russia; second, Russian corruption, capital flight, and
international money laundering; third, our financial poUcy towards Russia going forward; and
fourth, our policies generally to combat global corruption and money laundering.

I. Russia's Economic Transition and American Engagement

It would be difficult to overestimate the seriousness of the problems facing Russia today in the
wake of the monetary and financial coUs^se of Augxist 1998 - a colls^se that was itself the
consequence of long-standing Russian failures to finally establish and implement comprehensive

235

reforms against the background of a deterioration in the international economic environment.
These difficulties are of grave concern to the United States and will shape the terms of our
engagement with Russia in the months ahead. But even as we recognize the enormity of
Russia's problems, it is important to see them in their broader context.

After the collapse of the Soviet Union in 1991, Russia faced four difficuh transitions: the
transition from empire to state; the transition from totalitarianism to democracy; the transition
from the law of force to the force of law; and the transition from a command economy to a
market economy. The American people had then, and continue to have, an enormous stake in
Russia's making these transitions peacefully and successfully:

• It is a stake that derives from our national security interests, made all the more important by
the large number of nuclear weapons that remain on Russian soil.

• It is a stake that derives from our interest in a strong and stable global economy and
international financial system in which Russia becomes a healthy participant.

• And it is a stake that derives from our interest in protecting the integrity of our markets and
our financial institutions from the scourge of corruption and money laundering - be it in
Russia or any other country.

The United States has pursued these critical interests bilaterally in a number of ways: through
far-reaching arms control and military cooperation with Russia; through extensive formal and
informal mechanisms and contacts; through bilateral aid programs; and through direct linkages
between American and Russian law enforcement agencies.

Along with technical assistance, the aspect of Russia's transformation in which the Treasury
Department has been, and continues to be, most heavily involved is Russia's interaction with the
international financial institutions. We have supported that interaction because of our
assessment of the strong U.S. interest in Russia's constructive evolution.

Conditioned financial support

From the start, the overarching economic objective of the international financial institutions in
their operations in Russia has been to help Russia develop the policies and institutions of a
functioning market economy as the route to stability and growth, an objective that the United
States has supported as the major shareholder in these institutions. Economic instability in
Russia raises important concerns for our national security, given Russia's pivotal and continuing
role with respect to nuclear security, the battle against terrorism, the stability of Eurasia, and
conflict resolution in global hot spots like the Balkans.

The crucial tool of the international financial institutions to support economic reform in Russia
has been conditioned finance. At every step, we have been clear-headed in endeavoring to strike
a careful balance:

• Between conditionality that requires what is best economically and is also politically

236

realistic.

• Between the desire to effect meaningful reform and the need to avoid excessive intrusion in
decisions that Russia must ultimately embrace for itself

• Between the goal of creating investor confidence in Russia and attracting foreign capital and
the need to avoid moral hazard problems that would result from large amounts of
unconditional finance.

• Betwreen the goal of dismantling the apparatus of communism and the need to cushion the
impacts of the process of change.

Our support for official financing for Russia has been grounded in the application of
conditionality and in the recognition that we cannot want successfiil market reform in Russia
more than Russia's government and its people do. America's interest lies in making reasonable,
informed judgments on what we believe to be the right direction for Russia, and in conveying
these views clearly to Russia's government and its people.

Providing assistance in a way that puts the integrity of the international financial institutions at
risk serves neither American interests, nor those of Russia or the international community. It is
critical that countries respect the conditions of programs reached through negotiations with the
International Monetary Fund or Worid Bank. The IMF and World Bank must hold Russia
accountable for its performance, both in implementing agreed-upon policy actions and in
ensuring that multilateral financing is used for its intended purposes.

A review of the record of lending to Russia by the IMF and World Bank shows that these
institutions have tailored their support to the circumstances. For example, in 1996, the IMF took
the then-unprecedented step of introducing monthly monitoring of Russian policy performance
in its 1996 program. In addition, the IMF withheld financing when previously agreed-upon
conditions were not met.

• In 1 996, monthly IMF tranches were delayed eight times, including twice before the summer
elections, and two tranches were never disbursed.

• Under Russia's 1996-97 EFF program, actual disbursements were $1 .6 billion, or 28%, less
than originally planned because of shortcomings in Russian policy performance.

• After the August 1 998 monetary and financial colls^se, the IMF ceased lending to Russia for
a year imtil Russia began implementing a new economic program focused on restoring
financial stability.

Similar failures to follow through on policy commitments have also constrained World Bank
lending to Russia.

Russia 's record since 1992

237

No one, here in the United States and certainly in Russia, can be satisfied with developments in
Russia during the past decade. Growth has been stagnant, corruption has been all too prevalent,
and a law-based market economy has not been established. Since August 1998, Russia has
struggled, albeit with more success than most expected, to avoid the perils of hyperinflation and
economic collapse. There have been some positive signs; for example, industrial production in
August was 16% above its level a year ago. But the fact remains that the Russian government
has failed to implement some of the most basic and critical reforms, and enormous challenges
remain.

At the same time, the record also demonstrates that Russia today is in many ways a very different
country than it was a decade ago:

• Russian nuclear weapons are no longer targeted at our cities; 1,500 nuclear warheads have
been deactivated, and over 300 bombers, silos, and launchers have been destroyed.

• Russian military spending has dropped dramatically in real terms to about one tenth of its
Soviet-era peak in 1988; Russian troops have been withdrawn from the Baltics and Eastem
Europe; and Russians are working side-by-side with NATO in the Balkans.

• Russia is now more open; Russians can learn what happens in the markets and societies
beyond their borders, have access to the ideas and products that the world has to offer, and
have imprecedented personal freedoms, even if the capacity to exercise civil liberties is far
fix)m perfect.

• With 70% of the Russian economy's output now generated by the private sector, the
communist system has been essentially dismantled and the state's tentacles of central control
have been largely dislodged.

• Economic distortions created by energy prices that were once held far below world prices
and the easy availability of subsidized credits have been greatly reduced.

Russia's perfoimance reflects the policies that Russia has chosen. If not all our goals for Russia
have been fulfilled, it is certainly equally true that not all the fears for Russia that were common
a decade ago - or even a year ago - have materialized.

As we look at the current envirorunent in Russia, we must be aware that Russia will shape its
own destiny. What is most constructive going forward is a focus on pursuing policies toward
Russia based on our national interests.

n. Corruption, Capital Flight, and International Money Laundering in Russia

Mr. Chairman, let me turn now to the separate, though often interlocking, issues of corruption,
capital flight, and international money laundering, which have been critically important to our
policy toward Russia for many years. Our longstanding concern about these problems has only
been further underlined by the recent investigations.

238

Corruption

Corruption is a problem of great concern for the United States, whether in Russia or elsewhere in
the world. Those who disobey Russian laws are unlikely to demonstrate any more deference to
the laws of the United States or any other country. This gives us a deep interest in doing as
much as we feasibly can to encourage the development of a fully functioning rule of law in
Russia.

To be sure, Russia inherited profound corruption problems from the Soviet era. In the 1980s and
early 1990s, for example, the Soviet system allowed the elite to profit from its access to cheap
commodities and credits and to foreign markets. As Anders Aslund has pointed out, in 1 990 the
state-controlled price of a ton of crude oil was the same as the free-market price of a pack of
Marlboros in Moscow. This distortion created opportunities for quick fortimes to be made by
those able to purchase oil domestically and resell it overseas. Aslund has estimated that at least
79 percent of GDP was lost in this type of distortion in 1992. These flaws in the economic
system that Russia inherited from the Soviet Union explain why a crucial piece of our efforts to
combat corruption in Russia has been to push for the elimination of subsidies and price controls.
An equally important concern has been Russia's failure to establish the rule of law and the
inability of Russians to rely on a fair enforcement of laws and contracts. In policies toward
public and private enterprises, in the collection of taxes, and in the formulation and
implementation of banking regulation, there have been far too many instances of corruption in
which private interests, rather than the public interest, have been protected.

A particularly problematic result of Russia's failure to establish the rule of law and a credible
law enforcement system has been the growth of organized crime during the past decade. Russian
organized crime has emerged as a powerful corrupting force - a force that challenges Russia's
political and economic development. It has also become a global threat, one that poses a
challenge to the integrity of our financial system. Clearly our efforts to combat the activities of
Russian organized crime here in the United States would be bolstered by substantial progress in
the establishment of the rule of law in Russia.

The fu-st phase of Russia's privatization process was directed principally at dismantling the
mechanisms of the failed centrally planned economy. Although it is reasonable to debate the
specifics of that program, there is broad agreement that it accomplished its objective. Much
more serious questions about a lack of transparency and competition surround a later phase of
privatization, the Russian government's so-called "loans-for-shares" program. We shared those
concerns. As early as April 1995, several months before the deals ultimately took place, the U.S.
Executive Director at the IMF detailed our strong misgivings regarding such transactions and
emphasized the need for transparency and competition in the privatization process. The
international financial institutions also expressed profound concerns.

The Clinton Administration has consistently urged the Russian government to combat corruption
through structural and institutional reforms and the rule of law. President Clinton made clear our
concerns in strong public statements in Moscow in 1995, as well as subsequently. As the
President said to Russian Prime Minister Putin in a meeting 10 days ago, corruption and money
laundering "could eat the heart out of Russian society" unless the government acts aggressively

239

to combat these problems. That is why, for example, we have repeatedly encouraged Russia to
adopt a simpler, more efficient tax code and to enforce the collection of taxes - a process that is
at present woefully inadequate and subject to rampant corruption.

In addition, we have regularly supported placing specific conditions, aimed at reducing
corruption and strengthening Russia's economic and legal system, on loans to Russia by
international financial institutions.

These conditions have included:

• Tax systems designed to reduce bribery and tax evasion by politically well-connected energy
companies and other large firms.

• The elimination of tax offsets - for example, trading tax payments for payments for goods
and services - which act as a major contributor to corruption, lack of budgetary discipline,
and tax evasion.

• The creation of a Russian treasury and budgetary control system to cut expenditure leakages
for corrupt purposes.

• The decontrolling of prices to eliminate corrupt, bribe-ridden distribution systems and reduce
enormously costly insider arbitrage opportunities, in which traders buy commodities at low
controlled prices and sell them abroad at higher market prices.

•

The reduction of subsidies, which have destroyed budget discipline and created additional
insider arbitrage opportunities.

Trade liberalization to introduce more foreign competition and, thereby, reduce monopoly
power and opportunities for corruption.

• Reductions in government wage and pension arrears.

• Better bankruptcy laws and improved enforcement to reduce asset stripping and induce the
honoring of contracts.

• The strengthening of minority shareholder rights to avert deals that benefit insiders at the
expense of the rest.

Capital/light

If corruption is often indicative of a vote of "no confidence" in a state's capacity to establish and
enforce the rule of law, capital flight is a vote of "no confidence" in a country's economic
policies. Much of the enormous flight of capital out of Russia reflects Russians' lack of
confidence in the ruble, in the banking system, in the economic consequences of political
uncertainty, and in the capacity and willingness of the government and the parliament to work
together to implement the structural reforms necessary to build a strong economy.

240

The most obvious manifestation of this lack of confidence is the $35-40 billion in U.S. currency
that is estimated to lie outside the financial system, largely beneath Russian mattresses. During
the transition period, capital flight has drained perhaps $15 biUion a year fi-om the Russian
economy. Russia's current account surplus may reach 8 percent of GDP this year, yet foreign
exchange reserves remain low, and the country has fallen behind on a substantial part of its
external financial obligations. The simple explanation for this phenomenon is the withdrawal of
capital from Russia.

History teaches us that the best way to stem capital flight and encourage money to return is to
create a healthy business environment, one that provides the sorts of investment opportunities
that will attract capital back. That is why we have pressed, and will continue to press, Russia -
both through our own bilateral interactions and through the IMF and other international financial
institutions - to implement policies that support competition; tax reform; improved corporate
governance; greater transparency and disclosure in the private and public sectors; stronger bank
supervision; and restraints on the discretion and scope of government regulation.

International money laundering

Money laundering requires neither official corruption nor capital flight. However, the three
often come together where the rule of law is weak and confidence in the economy is low.
Money laundering is the process of converting ill-gotten gains into "usable" funds by routing it
through what appear to be legitimate transactions. Money laundering is therefore predicated on a
previous crime. Money laundering through cross-border transactions can become part of capital
flight.

Wherever it occurs, international money laundering poses a threat to the integrity of financial
institutions both here and abroad. The current allegations involving money laundering through
major American financial institutions have only reinforced our recognition that widespread
corruption in another country can pose a significant danger to our interests.

In this context, a test of Russia's seriousness in its effort to combat its money laundering
problems will be its ability to establish an adequate legal framework and implement effective
enforcement mechanisms. To fiirther this effort. Treasury has been assisting Russian authorities
to enact and implement effective anti-money laundering programs. For instance, Treasury has
actively participated in bilateral training and technical assistance programs to help Russia build
its anti-corruption and anti-money laundering infrastructure. Treasury has also participated in
the work of die G-8 Lyon Group of law enforcement experts, in connection with that group's
project to identify and pursue Russian and Eastern European organized crime groups. A team of
Russian law enforcement officials visited Washington last week and met with officials from the
Justice Department, the State Department, and many parts of the Treasury Department, including
the Internal Revenue Service, the Customs Service, the Financial Crimes Enforcement Network
(FinCEN) and the Secret Service, as well as other government agencies, to discuss money
laundering issues. The Russian ofBcials also met with of^cials from the Federal Reserve to
discuss banking supervision and regulation. Such dialogue represents a step in the right
direction, but it must be followed up with concrete actions.

241

Administration officials have urged the Russian government to pass comprehensive anti-money
laundering legislation. We have stated publicly that President Yeltsin should not have vetoed
such legislation. In a telephone conversation earlier this month, President Clinton stressed to
President Yeltsin the importance of swiftly designing and enacting a strong anti-money
laundering law. President Yeltsin assured President Clinton that this was indeed his intent. In
the context of ongoing IMF engagement with Russia, the United States and other major IMF
shareholders will be monitoring developments in this area closely.

III. Our Financial Policy Toward Russia

Following the economic and financial collapse of August 1 998, Russian economic policy and our
own financial policy toward Russia moved to a very different phase. The International Monetary
Fund ceased lending to Russia and did not provide any financial assistance for about a year.

Our interaction with Russia through the international financial institutions, however, is only part
of our efforts to promote stability, economic progress, and Russia's integration into the global
economic and political systems. Certainly it is in our interest to remain engaged with the
Russian people.

The United States is continuing to help the Russian people develop democratic and legal
institutions, start private businesses, and improve social services. We have supported the
development of NGOs; of the 65,000 NGOs that have been created during the past decade,
US AID programs have supported more than 15%. The Department of Commerce and US AID
are assisting thousands of small and microbusinesses through a variety of programs, including
loan programs. And through USAID-sponsored programs, we are training thousands of doctors
and nurses and helping Russia improve drug therapy and care for diabetics, a disease that
currently affects seven million people in Russia.

The technical assistance we provide Russia has long emphasized building the legal and
regulatory infi-astructure necessary for a market economy. Treasury technical assistance has
focused in particular on the essential task of constructing a fair, predictable, law-based federal
tax system. As part of a broad array of efforts to strengthen the rule of law, US AID has worked
to promote judicial independence and ethics, providing training for close to a thousand judges
and court personnel.

A new approach to financial assistance after 1998

In the difficult environment that has resulted from Russia's economic collapse in August of last
year, the approach of the international financial institutions with the support of the G-7 has
shifted fi-om providing net new fimds to Russia in order to promote economic reform to partially
refinancing debt coming due to the IMF as part of an attempt to support economic stability in
Russia. We and the international financial institutions have insisted that their support be based
on adequate accounting and adequate safeguards.

The IMF program approved in July 1999 was very different from all of Russia's prior IMF

242

programs. The first disbursement under the new IMF program - as well as any subsequent
disbursements - was predicated on the imposition of new safeguards to protect the use of that
money. The fiinds were provided in the form of Special Drawing Rights, were paid into an
account at the IMF, and can be used only to repay Russian obligations to the Fund. In addition,
approval of the program required a satisfactory independent investigation of the Russian Central
Bank's investment in Fimaco and of the July 1998 IMF disbursement.

Our decision to support this new program for Russia - as has been true of all of our policies
toward Russia since 1993 - involved a difficult balance: between the need for engagement and
the need for conditionality; and between what was economically necessary for Russia and what
was politically feasible. Going forward, it will be as important as ever that we remain
hardheaded and clear-eyed, and ensure that any support that is provided for Russia is used for its
intended purpose and for that purpose alone.

Russia's new IMF program will be complemented by limited and measured support through
fmancing from the World Bank and the European Bank for Reconstruction and Development for
particular projects and targeted reform efforts. As in the past, any lending will depend on
Russia's adherence to the conditions of these programs. Last summer, the World Bank
restructured its three key structural adjustment loans to Russia to encourage greater progress
toward reforms in the financial and coal sectors and in the country's pension and welfare
systems. It also canceled parts of other loans amounting to $228 million because of poor
performance, largely as a result of the fmancial crisis. This measured approach has also
informed our support for a rescheduling of Russia's bilateral Paris Club Soviet-era debt that is
limited both in scope and duration.

Under the new IMF agreement, Russia is to repay about $2 billion of its obligations to the IMF,
and is refinancing the remaining $4.5 billion coming due during the program period. This will
have the consequence of reducing Russia's debt to the IMF as Russia meets its obligations.
Accounting for all the operations of the international financial institutions, there will be a net
financial flow fi-om Russia to the international financial institutions as a group between July
1999 and December 2000.

Loans conditioned by adequate accounting and adequate safeguards

Our continued support for IMF or World Bank engagement with Russia is predicated on Russia's
compliance with crucial conditions to ensure financial integrity and to safeguard any assistance
provided in refinancing. These include:

• The completion of an investigative report on ail offshore operations of the Central Bank of
Russia.

• Procedures at the Central Bank of Russia (CBR) to strengthen internal controls on the
management of reserves, exchange market intervention, and extension of credit to
commercial banks. Each disbursement of IMF financing will be conditional on a
determination that the CBR's reserve management since the prior disbursement has been
appropriate.

243

• A regime of regular external audits of the CBR that are reviewed by the IMF. These audits
should be made public.

• New procedures to strengthen safeguards on the use of the resources of the international
financial institutions for budgetary support.

These conditions and considerations will govern our support of additional disbursements to
Russia from the IMF and World Bank.

We have supported continued IMF engagement with Russia, based on these safeguards, not
because we expected that Russia would be rapidly transformed into a market economy or that
corruption would be eliminated overnight, but rather on the view that to quarantine, contain, or
write off Russia as too corrupt would ill serve our national interest. Acting on that view would
limit our ability to support Russian economic and fmancial stability; it would inhibit our ability
to promote democratization; and it would raise the risk that the United States and the West would
be labeled as scapegoats for Russia's failure to address its problems.

rv. Combating Global Corruption and Money Laundering

Finally, as we work to promote the adoption of sound economic reforms in Russia and in other
countries aroimd the world, fighting corruption and pursuing policies to reduce crime will be
essential components of those efforts. We will pursue these measures, as we have done in the
past, both through our bilateral relationships and within multinational organizations.

For example, building on the U.S.-led efforts to conclude the OECD Anti-Bribery Convention
and the Vice President's Anti-Corruption conference last February, we have been pressing, and
will continue to press, for the complete ratification and implementation of the OECD Convention
by all signatories. In addition, the United States is working with its G-7 partners and others to
coordinate anti-corruption efforts and assistance, complete a WTO agreement on transparency in
government procurement, and seek ways to institutionalize international measures to identify,
block and seize illicit funds gained through criminal acts.

Anti-corruption initiatives within the international financial institutions

The IMF is increasingly giving explicit consideration to addressing weak governance and
corruption in all its country programs. The Fimd has developed a code of fiscal transparency,
which calls for governments to accurately track and disclose expenditures and thereby make
them more accountable for their spending decisions. It has also consistently supported open and
transparent markets, price decontrol, and trade liberalization, each of which will reduce the
opportunity for bribery and corruption.

The IMF's approach to its 1997 programs with Thailand, Korea, and Indonesia included
provisions aimed at reducing "crony capitalism," and other forms of corruption. For example, in
the case of the Reforestation Fund in Indonesia, used by former President Suharto and his
colleagues for inappropriate purposes, the IMF required that the Reforestation Fund be

244

accounted for as part of the national budget, and required a full audit by internationally
acceptable experts that is to be published upon its completion this fall. More recently, the IMF
has suspended funding to Indonesia in connection with accusations of corruption relating to
Bank Bali.

The World Bank, with the strong support of the United States, is also paying increased attention
to the problems of corruption in its member countries. The Bank has developed programs to
combat corruption problems in individual countries, initiatives to enhance transparency and
accountability in public finances, and approaches to strengthen public institutions and the rule of
law with regard to investment and property. The Bank has also developed new methodologies
and techniques for analysis of the nature and extent of corruption in specific countries.

Since 1 996, more than two dozen countries in East Asia, Eastern Europe, Latin America, and
Afiica have sought the Bank's assistance in anti-corruption work. Specific country programs
include: technical assistance for procurement reform in Tajikistan and Lebanon; anti-corruption
seminars in Georgia, Ghana, India and Korea; Supreme Court modernization in Venezuela; and
educational workshops to improve public expenditure management in Gambia.

In the IDA- 12 replenishment agreement, the United States led the effort to include a
strengthened linkage between new lending and borrower performance, with explicit
consideration to be given to good governance and efforts to combat corruption. IDA- 12 also
requires the World Bank and its borrowers to undertake public expenditure reviews, procurement
assessments and financial capacity assessments and to identify follow-up actions. The United
States will also continue to urge the Multilateral Development Banks to give priority attention to
developing uniform procurement rules and documents which can help countries combat
corruption and decrease opportunities for corruption in World Bank and regional development
bank projects.

Going forward, these issues will be the focus of attention and the international meetings over the
next ten days. We and the G-7 will be calling for authoritative reviews by the IMF and the
World Bank to identify ways to strengthen safeguards on the use of IMF and World Bank funds,
especially in cases where there is heightened risk of diversion or misappropriation of funds.

National Money Laundering Strategy

This Thursday, the Treasury Department and the Justice Department will release the
Administration's first National Money Laundering Strategy report. The Strategy will set forth a
broad-based domestic and international program to combat money laundering, including several
dozen proposed action items aimed at bolstering international cooperation in the fight against
money laundering; strengthening domestic enforcement; enhancing the regulation of banks and
other financial institutions; and building stronger partnerships with state and local governments.

The Strategy will contain a series of recommendations intended to combat the types of criminal
activity we are discussing here today. For example, it calls for legislation to make U.S. money
laundering laws applicable to a broader range of international criminals - including corrupt
foreign officials. It calls for rules to extend requirements for filing suspicious activity reports

245

(SARs) to money service businesses, broker/dealers and casinos, as well as enhanced use and
analysis of SARs by Treasury's Financial Crimes Enforcement Network and other federal law
enforcement agencies. The Strategy calls for designating high-risk money laundering zones
toward which to direct coordinated law enforcement efforts. And it proposes that we intensify
pressure on nations that lack adequate counter-money laundering controls to adopt them.

The implementation of these recommendations will take time, but with hundreds of billions of
dollars laundered each year, it is clear that we must make long-term commitments while moving
forward quickly.

V. Concluding Remarks

Mr. Chairman, during the past six and a half years we have faced very difficult choices with
respect to Russia even as we have sought to intensify our efforts to combat global corruption and
money laundering. There are clearly no simple answers on how best to support perhaps the most
complex economic transformation of our time, and the process of change in Russia is still
ongoing. In many respects, the challenge has been to find the best economic policy when
confi'onted with difficult choices. The difficulty of those choices has hardly diminished in the
wake of developments that have taken place in Russia since August 1998. As I have described,
since the economic and financial collapse at that time, the financial aspect of our engagement
with Russia has been pursued on very different terms and with much constrained objectives. The
present program, built around the very rigorous safegiiards that restrict how Russia can use any
financing that the IMF makes available, implies a continued reduction in Russian debt to the
IMF.

It has always been clear that Russia's complex transformation fi-om a centrally planned
communist empire to a democratic market-based economy would take a great deal of time. And
it has been equally clear that the United States has a great stake in the success of this process. As
Russia's transformation proceeds, we will need to continually assess and adjust our strategy in
light of our interests as events in Russia evolve. Discussions like the one we are having here
today will be important to help guide our thinking on this crucial national issue as Russia's
transition continues.

Thank you. I would now welcome the Committee's questions.

-30-

246

U.S. House of Representatives

Committee on Banking and Financial Services

September 2 1,1999

Hearing on Russian Money Laundering

R. James Woolsey

Shea & Gardner

Mr. Chairman and Members of the Conmiittee, it is an honor to be asked to testify today
on this important subject.

I should begin by ensuring that you realize that my detailed knowledge of this particular
issue is dated, limited in scope, and was highly classified at the time I was working on it several
years ago because of the sources and methods we used in learning about it. My involvement
arose because, during 1993, when I was Director of Central Intelligence, some very able CIA
analysts came to me with an excellent briefing on some aspects of Russian organized crime.

I moved promptly to ensure that very senior officials at the Justice Department, the FBI,
the National Security Council, and other relevant agencies received this briefing. In several of
these cases - 1 remember briefings at Justice and the NSC - 1 personally attended in order to
highlight the importance of the subject and to emphasize the excellence and the creativity of the
CIA officers' work.

I then commissioned a special National Intelligence Estimate on Russian organized
crime. Because of the sensitivity of the sources and methods involved, distribution of this
Estimate was quite limited.

I also put this issue on the agenda of some of the Intelligence Community's most
sensitive meetings on intelligence matters with some of our closest allies, and ensured that at a
very senior level they were appropriately briefed as well.

I believe that through these steps the U.S. Intelligence Conmiunity and the CIA in
particular performed a valuable service in putting this issue squarely before those in the U.S.
Government and in allied governments who needed to know about it in order to take appropriate
action.

I stated publicly during my tenure and have said fi«quently thereafter that this is one of
the most important issues the United States faces. This is really for three reasons.

First, the organized crime and corruption problems together have the potential to
destabilize the Russian state. Russia remains one of the nations that can destroy the United
States within the 30-minute flight time of an ICBM. Thus political instability and
unpredictability among those a^o command and control Russia's strategic systems are of

247

paramount importance to us.

Second, there is the real possibility that Russian organized crime groups may be, or
become, involved with the sale of technology or materials for weapons of mass destruction or
other modem military technology. Such sales could be highly profitable in the right quarters,
e.g. to Iraq, or to certain terrorist groups, so this is an area where there could be a confluence of
interest between Russian organized crime and bitter enemies of the United States.

Third, Russian organized crime can use its resources to corrupt institutions here in the - -
United States. The recent case involving the Bank of New York may prove to be one such
example.

I have been particularly concerned for some years, beginning during my tenure, with the
interpenetration of Russian organized crime, Russian intelligence and law enforcement, and
Russian business. I have often illustrated this point with the following hypothetical: If you
should chance to strike up a conversation with an articulate, English-speaking Russian in, say,
the restaurant of one of the luxury hotels along Lake Geneva, and he is wearing a $3,000 suit and
a pair of Gucci loafers, and he tells you that he is an executive of a Russian trading company and
wants to talk to you about a joint venture, then there are four possibilities. He may be what he
says he is. He may be a Russian intelligence officer working under commercial cover. He may
be part of a Russian organized crime group. But the really interesting possibility is that he may
be all three - and that none of those three institutions have any problem with the arrangement.

In addition to the above points, all I have said publicly, Mr. Chairman, about our work
during that period is that I agreed with my successor, Mr. Deutch's public statement during his
tenure that one of the groups involved with organized crime in Russia was Mr. Louchansky and
his company, Nordex.

I would point out to the Committee, however, that I resigned during the second week of
January, 1995. Since then, on this issue, I, like Will Rogers, only know what I read in the
papers. Having brought a bit of backgroimd and some views to the subject during the now nearly
five years since I resigned, however, I do have some judgments about this issue which I would
offer the Committee. I want to stress, however, that at this pomt my testimony moves from what
I know to, based on public sources, yvbax I believe.

I have no reason to dispute the Russian government's estimate that criminal syndicates
now control around 40 per cent of the Russian economy. And, as you pointed out in your piece
earlier this month in the New York Times. Mr. Chairman, there are higher estimates as well. Nor
does the problem seem to be declining in intensity. One of the problems pointed out to me last
week by former Interior Minister Kulikov is that the Duma has passed anti-corruption legislation
five times that has either been vetoed or otherwise sidetracked by President Yeltsin and his staff.

The heart of the matter seems to me to be the difficulty we have in finding an honest

248

institution or group of individuals with whom we can work on a long-term basis.

I might contrast the current Russian situation with that m Italy some years ago, when
organized crime was an extremely serious matter there, reaching very high in the Italian
govermnent. But in Italy, by law and tradition, there was at least a critical mass of honest
magistrates with the authority to investigate and prosecute - Italian "Untouchables", in other
words. The FBI and other parts of the U.S. Government thus had a solid group of professional
and honest parmers with whom to cooperate, and although it was far from easy, substantial
progress has been made against organized crime in Italy in recent years.

In Russia, although there are individuals with whom, from time to time, we can work in a
frank and fully cooperative manner, there does not seem to be a critical mass akin to what was
provided by the Italian magistrates: a group of Russian colleagues with whom we can work on a
broad front and on a long-term basis. Perhaps the Presidential election in Russia next summer
will lead to such a development within the Russian government. If not, I don't see how we will
be able to make progress beyond what we can do on our own. This is important for us to do, but
it will not solve the problem.

Let me conclude, Mr. Chairman, with the following point. I have been asked frequentiy
since the story began to break a few weeks ago concerning money laundering through the Bank
of New York whether during my tenure I detected any lack of willingness at the senior levels of
the U.S. Government to hear information about this subject. My answer to that specific question
is no, I detected no such lack of willingness as of January, 1 995.

But during the last several years we have seen that to an extraordinary degree the United
States has become identified with President Yeltsin and the many teams he has selected, then
fired, then selected, etc. to work with him. We have also been quite generous financially, both
directly and through international institutions such as the IMF. We have, through the IMF and
otherwise, pushed for increased tax collections and tight budgets. Each of these approaches at
one time or another may have been defensible. But if one steps back fix)m them and looks at the
overall pattern, it is easy to see how ordinary Russians, who saw us in highly idealized terms just
a few years ago, have turned so sour on the United States.

In their eyes, we are the supporters of those who have stolen much of their national
patrimony through a highly-corrupted privatization process and we are, at the same time, those
who insist that the ordinary people of Russia bend their backs even harder. We are seen, in short,
by average Russians as supporting the system and the individuals who are exploiting them. To
them, America has won the cold war and then helped give them a capitalist economic system that
is modeled not on Silicon Valley, but on the Chicago liquor market of the 1920's. Something is
badly wrong here, but the roots of the problem do not lie solely in our knowledge about and our
approach toward dealing with Russian organized crime. They are far deeper - in the
fundamental approach toward Russia that has, perhaps in a fit of absent-mindedness, become
American policy.

249

TESTIMONY OF FRITZ W. ERMARTH

RUSSIAN ORGANIZED CRIME AND MONEY LAUNDERING

BEFORE

THE HOUSE COMMITTEE ON BANKING AND FINANCE

21 SEPTEMBER 1999

Mr. Chairman. I deeply appreciate the opportunity to testify before this committee on the challenge posed
by Russian organized crime and its threatening practices, such as money laundering.

I would like to focus my testimony on the larger context of Russian developments that have spawned this
challenge We should have little doubt that our law enforcement agencies and our financial Institutions will
respond to the threat from Russian organized crime. It is both serious and novel in the forms It takes. The
inquiries of this committee will surely help

But we must keep the most important issue in the forefront, as your public statements indicate that you do,
Mr. Chairman

We must consider how our country's future security and well-being will be threatened If, once again,
Russia fails in the historic task of finding her way to authentic, stable democracy and a just, prosperous
society with a market economy.

My bottom line is this: Russia is not lost. Russia is stuck in a swamp between the Soviet past and several
alternative future possibilities, some invitingly bright, some ominously dark. The larger purpose of these
hearings, in this and other committees, and of the debate now, finally, taking place in our political arena
about Russia, is to understand her condition and prospects better and to inform better American policies
for encouraging the brighter prospects of democracy and capitalism.

The threat from Russian organized crime springs from two fundamental and interrelated realities: first, the
grave weakness of the rule of law in Russia, and second, the perversions of what we have called economic
refomi.

The Soviet communist system was itself a kind of structured lawlessness. To be sure, the Soviet Union
had myriad laws. But they were not rules for regulating relations among the members of a self-goveming
society Rather they were tools for maintaining power, to be used, abused or ignored by those who held
power They afforded ample space for official and unofficial criminality. In the later Soviet period, the
manifestations of this - ranging from petty thievery, to organized crime, to enrichment of the partocracy -
expanded as the structures of Soviet power decayed The collapse of communist rule gave free rem to
these phenomena in a new setting.

The new setting is something for which I have not found a good definition. It has important features of
democracy and capitalism, but it is not authentic democracy and capitalism. Focusing on the economic
side, I would use the term crony capitalism without much capitalism. It lacks firm property rights and good
corporate governance. It is about the distribution and especially concentration of wealth, but far less about
investment and the creation of wealth. And, above all. it is about the extraction and expatriation of wealth

This came about in large measure because of the manner in which the reformers of the post communist
regime tied to create capitalism amidst the wreckage of the Soviet order As one analyst I've read put it,
they proceeded in good communist fashion to create a new capitalist dass by basically appointing them.
Relying largely on privileged, insider relationships, vast resources and enterpnses were placed into private
hands, often old communist hands, at lees than fire-sale prices. Enterprises were sold off at less than
cash value of annual revenues in some cases. Export and import privileges were handed out to cronies

Thus, the process of privatization was from the outset a rip-off at the expense of the state and society.
This, along with the destruction of people's savings through gratuitous inflation in the eariy 1990s, deeply
blighted the public's view of capitalism from the outset. The reformers took a course certain to alienate
society; and they deliberately ignored the task of building public understanding and support.

250

It still might have worked out had the new owners proceeded to manage their new wealth as real capitalist
entrepreneurs by investing, building, and creating Far too often, however, they did not. Lacking
confidence that their new wealth could be profitably invested in Russia or even that they could hold on to it,
they all too often extracted it. stripped It, plundered It out of Russia and sent It abroad where it could be
safe and productive. In this manner a country rich in natural resources and productive potential saw its
state and society impoverished. The society and domestic economy reacted with various coping
strategies, from barter trade to moonlighting work. The state reacted v^h measures that went beyond very
creative financing, like simply not paying its bills. Among other things, it created what appeared to be a
no-lose casino in short term debt by wt^ich Russian and then foreign speculators essentially were allowed
to plunder the state budget until it collapsed in August 1998.

What we've seen here is not so much organized crime as authorized crime intertwined with corrupt
government and politics at all levels And it has abetted and been abetted by organized crime with its
money laundering skills and protection racketeering.

The fundamental misdemeanor of Western, including American, policy was that it bought into this phony-
crony capitalism too uncritically and for too long. So did the mainstream media, and the mainstream
foreign policy establishment. The protests of Russian and Western observers who knew what was going
on went unheeded. One of the sad consequences was that IMF lending, while aiming to stabilize the
economy and encourage investment, actually lubricated and legitimized this process of stripping and
expatriation of wealth It was more perversion than diversion of IMF money, although some of the latter
probably occurred last year.

If one includes the period of the late 1980s, when much of this activity accelerated under the aegis of the
KGB and the communist leadership, one might guess that from 200 to 500 billion dollars have left Russia
In what Is very loosely called capital flight. Some of it Is derived from plain crime, like drug traffic, stolen
cars and weapons Some it is entirely legitimate except for tax evasion I strongly believe that most of it is
in the gray zone in between, that is, the product of phony-crony capitalism Some of it gets laundered
because its owners need to disguise its origins to all observers. But a lot of it just gets deposited and
invested. And not much of It stays In Cyprus or other tax havens Much of it, probably most of it. has
come into the biggest, safest, most accessible, and profitable investment target in the world, the United
States.

Here it undoubtedly goes in several directions. Some stays liquid for future use Some returns to Russia
for business, political, or criminal purposes. Some gets invested in portfolios, real estate, and business.
And I am sure that some of it goes to political contributions of various kinds. Why can I permit myself this
seemingly inflammatory statement? First, t>ecause of the logic of the situation; that" s normal behavior for
this kind of money. And I am sure it is quite bipartisan, because this kind of money doesn't care about the
values, the issues, the candidates or the parties It cares about influence Second, because there have
been some examples in the press. And, third, because knowledgeable FBI specialists in this area have
said so This is. I believe, a proper subject for the investigations of this committee

I would assign greater weight however, to a more general problem Money on this scale acquires patrons,
protectors, and leverage. How much leverage and with what effects on government policies? I vrauld ask
for example: Did those Americans heavily invested in the Russian GKO market, by which vast profits were
extracted from the Russian budget and vast losses risked, exert influence on the US Government to
encourage more IMF lending last summer? Mr. Soros and others have strongly implied so.

Mr. Chairman, let me state that the picture I have painted so far is unfair. There is real capitalism and real
democracy in Russia. There are decent businesses, honest policemen, and dean politicians Which
retums me to my first point. Russia is stuck, not lost If the Russians can somehow get through the
current crisis of terrorism, conduct their elections, and create a somewhat stable and legitimate
government, I believe there Is a possibility that a window for real reforms will reopen. I hope then we shall
be ready to be supportive with policies more perceptive, more honest, and more constructive than they
have been In the past At least we must avoid repetition of past errors. That I see as the most important
purpose of our inquiry here. Thank you, Mr. Chairman.

251

Testimony Before the Committee on Banking and Financial Services,
United States House of Representatives

By Dimitri K. Simes, President, The Nixon Center, and
Paul J. Saunders, Director, The Nixon Center'

Tuesday, September 21, 1999

The outrage expressed by Russian officials over recent wide-ranging corruption allegations is
obviously self-serving to no small extent. Nevertheless, the surprise expressed by current and
former Russian officials at the Clinton Administration's "shocked, shocked" response to Russian
corruption is understandable; indeed, while new cases have arisen, the administration has known
the extent and magnitude of the problem for some time and has done very little.

Russian Corruption

Although corruption and organized crime had estabUshed roots in the Soviet Union and pre-
revolutionary Russia, they received a major boost from the collapse of the Soviet Union and
Russia's early misguided efforts at reform. Facing not-so-gentle encouragement from the
International Monetary Fund to liberalize its economy, Russia freed most prices from state
control shortly after its independence in 1992. The resulting hyperinflation wiped out the
savings of ordinary Russians well before the government was able to develop a privatization
strategy. As a result, when privatization finally began, its benefits were limited to a very few.

Three key groups - so-called nomenklatura managers, commercial bankers, and organized crime
lords - soon emerged as the principal beneficiaries of privatization. The managers used their
administrative confrol over enterprises to win de facto and even dejure property rights. The
bankers, who were not really bankers at all, used their initiative and government connections to
win control of vast amounts of state funds, the interest from which was routinely skimmed into
private accounts (as were portions of the principal, in many cases). Organized crime lords took a
more direct approach, using Russia's chaos to take confrol of enterprises through violence, to
demand "protection" payments, and to corrupt law enforcement bodies.

While the fimdamental decisions that led Russia down this path were taken in Russia by
President Boris Yeltsin and others, many key choices were taken under heavy pressure from the
Clinton Administration and the International Monetary Fund. President Yeltsin's decision to
give priority to macroeconomic policy at the expense of legislation to develop a healthy market
in Russia - a move strongly encouraged by the administration - came at a particularly high cost
as it discouraged investment, spurred capital flight, and facilitated widespread corruption.

In the seven years of Russian independence, corruption has penetrated virtually every sector of

' The views expressed in tfiis testimony are solely those of the authors and do not represent an institutional position
on die part of The Nixon Center.

252

society. It is not limited geographically or functionally. Corruption knows no limits within the
Russian government as well; it has grown rapidly not only in the executive branch but also in
Russia's legislature, where it is well known that votes are for sale.

At this very moment an effort is underway in Russia's State Duma, the lower house of
parliament, to overturn President Yeltsin's veto of a recent protectionist and confiscatory
insurance law. According to Russian accounts, a great deal of money has changed hands in a
drive to submit a new law that would violate Moscow's existing international obligations and
virtually force foreign insurers fi"om Russia. Moreover, the companies reportedly behind the new
law - such as Spasskiye Vorota and Ingosstrakh - are allegedly involved in unsavory practices
including so-called "wage schemes" that evade payroll and income taxes by substituting bogus
insurance payments for wages. These and other schemes deprive ordinary Russians of reliable
insurance, deprive the Russian government of much-needed tax revenue, and open up the
insurance industry to money-laundering rackets. One source estimates that 80% of Russia's life
insurance policies are fi-audulent.

American Policy

Recent revelations from the U.S. Embassy in Moscow published in The Washington Post and
The Wall Street Journal demonstrate conclusively that the administration has been aware of the
scale and scope of Russia's corruption problem for some time. Although there seems to have
been some disagreement between the political and economic sections in the embassy in recent
years, its staff produced many cables - including some signed personally by then- Ambassador
Thomas Pickering - that unambiguously described the cancerous growth of official corruption
and organized crime and the perversion of Russia's historic transformation. [Unfortunately, from
all available accounts, this objective reporting apparently ended after Ambassador Pickering's
departure from Moscow.] Central Intelligence Agency analysts brought similar information to
the attention of their superiors. And, of course, scholars and journalists have pubHshed
extensively on Russian corruption. Dimitri Simes, among others, has personally discussed these
issues with senior officials including Deputy Secretary of State Strobe Talbott.

Thus is not a lack of information that explains the Clinton Administration's failure to act on
Russian corruption but the administration's determination to ignore the problem combined with
its simplistic division of Russian political leaders into "good" and "bad." Although Secretary of
State Madeleine Albright insisted only last week that the administration's policy was intended to
support "good people doing the right things" it seems increasingly evident that it has actually
aided very imperfect people doing misguided things, at a minimum.

Some of the administration's greatest favorites in Russia have been involved in dubious activities
of which the administration has been aware, and which it has ignored, for years. For example,
attempting to distance itself from the Russian government's more obviously corrupt policies, the
Clinton Administration is now trying to claim that it did not support the controversial "loans-for-
shares" privatization program, through which leading Russian enterprises were auctioned off to
well-connected banks at bargain prices. This argument is at best disingenuous taking into

253

account the administration's unstinting support of Anatoly Chubais, the architect of the loans-
for-shares scheme, and of Russia's privatization pohcies more broadly. In the words of Richard
Momingstar, then the coordinator of U.S. aid to the former Soviet Union, "If we hadn't been
there to provide funding to Chubais, could we have won the battle to carry out privatization?
Probably not. When you're talking about a few hundred million dollars, you're not going to
change the country but you can provide targeted assistance to help Chubais." Then Deputy
Secretary of the Treasury Lawrence Summers was still sufficiently enamored of Chubais and his
circle to call them "an economic dream team" in 1997. If anything, the administration's support
for Chubais grew after the true natiu'e of the loans- for-shares privatization became apparent.

Moreover, the Clinton Administration supported Chubais, other so-called "radical reformers,"
and their patron President Yeltsin with much more than rhetoric and a few hundred million
dollars. In fact, it pushed for a $10.1 billion International Monetary Fund credit to Russia in
early 1996 - after IMF officials criticized Russia for failing to implement reform and at a time
when it was well known that substantial Russian government funds were "managed" by leading
banks that were siphoning away public money. Furthermore, because the loans were given as
general budget support and commingled with other Russian government monies, it is virtually
impossible to determine the origin of any particular dollar or ruble in a given account - a fact that
makes statements that there is "no evidence" of the misuse of IMF credits meaningless. And the
IMF was no rogue elephant in its lending to Russia; senior administration officials have
themselves referred to the Fund as a proxy for American policy.

It is not surprising in this climate that those Russian leaders supported by Washington, who were
simultaneously making concessions to the U.S. on foreign policy matters, developed a certain
sense of impunity. They may have heard the administration's half-hearted statements of concern
over Russian corruption but did not take them seriously. And why should they, when as recently
as May of this year National Security Advisor Sandy Berger, Treasury Secretary Robert Rubin,
Secretary Albright, Mr. Siunmers, and Mr. Talbott received Anatoly Chubais - no longer a
government official - during a visit to Washington. Enjoying such access to the administration,
Chubais and others had every reason to believe that its protests were Uttle more than a public
relations measiu'e.

The lack of seriousness behind the administration's pronouncements about Russian corruption is
further demonstrated by the fact that the Clinton Administration did make clear to Moscow that
there was a price to pay for disregarding American warnings in other areas. American pressure
significantly influenced Russia's behavior in the Bosnia and Kosovo crises, its dealings with
Iran, and many aspects of its macroeconomic policy. Corruption was never given this level of
priority. As a result, even today the administration's warnings on the issue are dismissed in
Russia. For example, the Russian newspaper Izvestiya - which is generally favorable in its
coverage of the Yeltsin inner circle - mocked Secretary Albright's statement last week that the
administration would be "outraged" if it is proven that U.S. assistance to Russia has been stolen.
"That is all," the paper wrote, suggesting that an American response limited to "outrage" was not
of particular concern.

254

Meanwhile, in Russia, there have been very few real investigations of corruption. Attempts at
investigation are routinely blocked and investigators are fired, transferred, blackmailed, or
themselves accused of impropriety, as has occurred in the case of former Russian Procurator
General Yuri Skimitov. Since so few officials are entirely clean, counter-charges alone are often
quite effective in killing inquiries. As a result, few are punished other than those out of favor or
"small fish" selected to teach someone a lesson. The well connected, particularly those close to
President Yeltsin, have Uttle to fear.

All of this comes at a cost. Years of American support for the corrupt and ineffective Yeltsin
regime have discredited the United States among ordinary Russians and led many to suspect that
the U.S. seeks not to help but to weaken Russia. Ironically, now even the administration's
"fiiends" in Russia are confused about American policy and are irritated by the sudden escalation
of anti-corruption rhetoric from senior U.S. officials.

Corruption has seriously damaged the way the Russian people view democracy and a market-
based economy, discouraged significant domestic and foreign investment, and contributed to
Russia's addiction to foreign credits (which, in the view of many Russian and Western observers,
do not help the country's economy but rather end up being abused or exported). Because of the
high-profile involvement of the Clinton Administration and international financial institutions
influenced by the U.S. in Russia's transition, these developments cannot but contribute to the
growth of anti- American sentiment in Russian society. While some may argue that anti-U.S.
sentiment has limited significance in a weak, Augmented Russia, it could have very serious
implications for U.S. foreign policy and American interests more broadly in a recovering Russia.
Moreover, just as too few analysts understood how weak the U.S.S.R. was and predicted how
quickly it would collapse, today only a small minority realizes how quickly Russia could be on
the road to recovery under strong leadership. If combined with a sense that the United States is a
hostile power, a modest recovery, or even the perception of recovery, could drive Russia to seek
arrangements with China or so-called "rogue states" such as Iraq and North Korea that would be
detrimental to American interests and values around the globe.

Should the United States face a hostile, recovering Russia in the fiiture, we may well find that the
Clinton Administration's tactical gains fit>m Russian cooperation (or, more accurately,
acquiescence) in the international arena will be more than offset by the longer-term costs of
failing to develop genuine partnership with Moscow. Russia still has thousands of nuclear
weapons and a dangerous capability for the proliferation of sensitive technologies. And while it
probably can never again be a global rival to the United States, Russia could be a major player in
any of a number of potentially threatening anti- American alliances. This cannot but have a
negative impact on Amoican global leadership in the 2 1 st century.

In its policy toward Russia, the Clinton Administration has clearly been on the wrong side of
history. It has siq)ported not donocratization and economic reform but the polarization and
corruption of Russian society. The administration cannot be said to have lost Russia, because
Russia is not yet lost and was never ours to lose anyway. But to the extent it has had an impact
on Russia's historic transition, that impact has been negative - and America's interest in a stable,
donocratic, and friendly Russia has suffoed profoundly.

255

Testimony of the Center for the Study of Transnational Crime and Corruption (TraCCC)
At American University, Washington, D.C.

Money Laundering Hearing
September 2 1,1999

Before the Committee on Banking and Financial Services, U.S. House of Representatives

Prepared by:

Prof. Vladimir Brovkin

Prof. Keith Henderson

Prof. Louise Shelley

256

Money laundeiung/transnational financial crime and corruption:
a high priority for the 2l" century

Whatever the facts and findings of the Bank of New York/Russian money laundering case, it is
representative of larger, inter-related global problems: weak, non-transparent global and country
banking systems, poor oversight and accountability, strong transnational criminal networks and
official and corporate corruption.

As global integration, new technologies and democracy has taken root in the 1990s, international
financial crimes, such as money laundering and public and private sector corruption,), should be
among the highest priority issues for the new millennium. They present a new pressing threat to
global economic and political stability that requires new creative solutions involving partnerships
between the public and private sectors. When combined with the overall weakness of the world's
financial system, as exhibited most recently in the Asian financial crisis, they have the potential to
rock governments and create regional and global economic and political instability.

Just as Russian legislation was inadequate for the profound economic transition, the international
financial community is poorly equipped with a legislative and enforcement fi-amework to cope with
the global economy. The Russian money in the Bank of New York case epitomizes the inadequacies
of our present system. It is a wake-up call to the public and private sectors and the multi-lateral
community.

An analysis of the Bank of New York's multi-billion dollar Russian money laundering scandal
vividly reveals the complexity, severity and myriad public policy and private sector issues
confronting the global community. This case should also be an alarming wake-up call to US and
Russian policy makers, including Congress and the White House, multi-lateral institutions - such
as the IMF and the World Bank, financial institutions and regulators ~ and the public. Scandals of
this nature are not new and are not specific to Russia. However, the analysis of the money flows will
help us understand the depth and breadth of Russian organized crime and corruption activities in the
US and around the world.

While we do not know all of the facts, the magnitude, multiplicity and unholy marriage of players
and countries in the Bank of New York case, in both the private and public sectors, is representative
of a larger problem and clearly illustrates the need to address both its causes and symptoms. This
global problem is estimated to be similar in size to the international narcotics trade currently
estimated to be as high as $500 billion annually. Thus, it should be treated as seriously and
holistically as the war on drugs and should be seen as an important source of money for drugs and
other criminal activities.

It's not just a Russian mob issue anymore. Venerable US and multi-national corporations and
financial institutions, a host of countries such as the US, Switzerland, Russia and the United
Kingdom, and fimds fi'om multiple criminal, corrupt, donor and legitimate sources, are all part of
this complex picture whether they are directly implicated in this case. Research conducted at
TraCCC on a number of Russian money laundering cases reveal the complex sources of illicit capital

257

and the complexity of the money laundering routes and methods.

The root causes are varied but primarily relate to the a "culture of secrecy" that exists within the
cultures of the diplomatic, multi-lateral and business commimities, inadequate international law
enforcement cooperation and high-level public and private corruption. The failure of multinationals
and international lending institutions to understand the extent and impact of organized crime and
corruption have made many turn a blind eye to these phenomena. The uru-egulated nature of the
transitional Russian economy provided more opportunities for speculation, insider trading, asset
stripping and movement of assets to offshore locations.

A NEW NATIONAL SECURITY THREAT

Transnational crime and corruption of this scale and nature represents a threat to national security.
They have the potential to destabilize political and economic systems ~ particularly in transition
countries and emerging markets such as Russia, Mexico, Indonesia and Brazil. In addition, they
impact disproportionately the poor and emerging middle class.

During the 1990's we began to rethink the military/national security issue within the post-Cold War
global order. On the dawYi of the new millennium we need to rethink the financial/national security
issue within the context of the new global financial order.

The NET RESULT: SECTORAL PERSPECTIVES/lSSUES

The net result of high level corruption, large scale money laundering and financial and economic
stability is that it impacts society in general because dirty money feeds the coffers of transnational
criminal networks involved in a wide range of illicit activities, including nuclear and weapons
smuggling and narcotics and human trafficking. It also places at risk the security of the public's
investments in pension funds and the stock market.

For the financial sector, more transparency, accountability and regulatory oversight are required.
Current internal employee guidelines and training, as well as existing external regulations/laws and
procedures related to international cooperation and information sharing are inadequate. Among
other things, "know your customer" and "know your employee" rules should be re-evaluated and
effectively but fairly enforced within a democratic context including respect for privacy rights.
Maintaining the public's faith in the US and global financial system must be among the most
important objectives of this united effort.

For the foreign policy sector and multi-lateral financial institutions, such as the IMF and the

World Bank, new policies and procedures for dispensing and monitoring aid and loans must be
developed. "Know your donee" rules, conditionality, sanctions, independent audits and civil society
monitoring and oversight mechanisms should be developed and enforced. For diplomatic and
political reasons, governments and multi-laterals may have to sometimes deal with corrupt public
ofBcials and representatives of the private sector. However, they should not do so with a blind eye
or without accountability or regard to its full impact on the public and reforms.

258

For the private and professional sectors, our research shows that money laundering and high-level
corruption at this scale can not be consummated without the complicity of an army of "bankers",
accountants, lawyers, business and financial advisors. These and other professions and corporations
should adopt the kind of practices, ethical standards and procedures that make them part of the
solution ~ not part of the problem. They should also be held accountable when they knowingly
advance the interests of criminal networks and/or corrupt officials and help launder or hide dirty
money.

For public policy makers, new laws and procedxires must be developed to address a panoply of
inter-related problems. Enhanced intenmtional cooperation, transparency and accountability, as well
as more civil society oversight, should be the key reform goals. In addition, if legal instruments like
the amended US foreign corrupt practices act, the new OECD anti-bribery treaty, the organization
of American states anti-corruption treaty and other intemational commitments (such as those made
by member countries of the financial action task force) are to have meaning and make a difference,
they need to address the full range of problems and to be properly enforced. This will require more
oversight and monitoring fi-om civil society, policy makers and the law enforcement community. Of
particular import is the need to step-up intemational efforts to regulate off-shore banking centers and
shell corporations. More regulatory oversight and accountability are needed in many countries in
the developing, transition and developed world. Future economic assistance to developing and
transition countries should be conditioned on banking, transparency and accountability reforms.

For policy makers in transition countries and emerging markets, these kinds of transnational
problems present an opportunity to focus on key institutional, political and economic reforms that
will enable them to become part of and compete in the new global economic and political
community. At the macro level, the majority of these countries should devote special attention to
creating key institutions such as an independent media, accounting chambers (G AOs), judiciary and
parliament and regulatory oversight institutions ~ particularly those related to the banking sector.
At the micro-level, special attention should be devoted to strengthening the fmancial sector by
adopting and enforcing intemational norms, laws, policies and regulatory standards that promote
investment, transparency, accountability and public trust in the banking system.

For the intemational law enforcement and intelligence communities, more effective ways to
enhance national and intemationai coordination, to undertake joint investigations and prosecutions
and to work more closely with civil society must be found. We need to help provide the resources
and incentives to promote cooperation, promote reforms and build public trust and participation.

Recommendations

1. Rethinlt regulation of global financial markets

We need to rethink how we regulate finaiKial markets in the global environment The costs of foiling
to address large-scale financial crime are severe because this activity is potentially very threatening

259

to the US and the welfare of all citizens. The end of the Cold War has made us rethink national
security in the military arena. We need to give equal attention to rethinking financial security in the
international fmancial arena. National sovereignty of many coimtries may have to be diminished to
facilitate international cooperation.

2. Need to be more vigilant in addressing grand corruption

We need to be much more vigilant in addressing grand corruption both in foreign leaders and in
those individuals at home who facilitate corrupt activities in the global markets. The lawyers,
investment firms, bankers and accountants who facilitate corruption and organized crime must be
subject to greater scrutiny and to appropriate sanctions.

3. Need special inter-agencv focus on non-drug related money laundering

Prevention of large scale money laundering requires greater coordination of intelligence, law
enforcement work, political and financial analysis. It cannot be addressed by training programs alone
but needs to be addressed in a coordinated way as we now approach drug trafficking. The bank of
New York case progressed to far because we lacked an inter-disciplinary approach and adequate
human resources assigned to the problem.

4. Cannot politicize issue of corruption otherwise will polarize rather than unite those
addressing the problem

We need to prevent the politicization of the Russian corruption issue. By doing this, we are losing
the support of those who are our natural allies on this issue. We are also undermining long term
Russian-US relations that are needed to address this problem.

5. Need to address transnational financial crime and corruption in times of high profit as well
as times of reduced profit such as in nissia today

We need to address the financial crimes and corruption issue in times when individuals are making
money as well as at such times as now after the Russian crisis in which there is less money to be
made. We must change the incentive system so it is in the interests of individuals to conduct greater
due diligence on their clients and to say no to questionable clients and transactions.

6. In Russia, need to encourage policies that bring money from the shadow economy without
legitimizing the theft of the Russian state

Within the Russian context, reforms must be focused on developing a middle class aixl stake holders
in a market economy and democratic society. Policy must be focused on developing a rational tax
policy in cooperation with members of Russian parliament which will limit capital flight and
diminish the control of organized crime. Strategies must be developed to bring back coital from the
shadow economy without granting an anmesty to capital diat was acquired at the costs of citizens'
lives or the impoverishment of citizens.

260

7. Russia needs to enact legislation and adopt effective enforcement strategies

Russia needs to develop new corporate govemance/ethics niles, respect for contract sanctity,
effective and fair enforcement of judicial decisions, balanced regional regulation by federal and state
authorities, proper income and asset disclosure, adoption and implementation of international
accounting and procurement standards. New legislation needs to be adopted in the tax, criminal law,
money laundering and asset forfeiture procedure arenas.

8. International banking, multinational corporations and lending institutions must enhance
oversight within their institutions and in international operations

In the international banking, multinational corporate and multinational lending institutions more
transparency, accountability and regulatory oversight is required. Current internal employee
guidelines and training, as well as existing external regulations/laws and procedures related to
international cooperation and information sharing are inadequate and must be enhanced. Among
other things, "know your customer" and "know your employee" rules should be re-evaluated and
effectively but fairly enforced within a democratic context

9. Greater oversight in needed in international loan policy. More attention must be paid to
preventing diversion of money by corruption and organized crime.

For the foreign policy sector and multi-lateral financial institutions, such as the IMF and the
World Bank, new policies and procedures for dispensing and monitoring aid and loans must be
developed. "Know your donee" rules, conditionality, sanctions, independent audits and civil society
monitoring and oversight mechanisms should be developed and enforced. Greater cooperation must
occur with internal watchdogs such as accounting chambers. The essential role of a free press in
investigating corruption must be recognized and journalists must be granted greater freedom to
information and protections in case they are threatened for their reporting.

10. Greater attention must be paid to developing policies to seize and repatriate assets which
promote development and public policy goals.

New and improved international policies concerning asset seizure and forfeiture laws, particularly
policies related to non-drug related cases, should also be re-examined, since they provide the fuel
for other forms of criminality, asset forfeiture policies should be developed wWch help foster
international development and public policy goals such as clean environment and human rights.

261

AMERICAN UNIVERSITY

WA8HINQT0N,

LOUISE I. SHFllFY

Director

October 12, 1999

Congressman La Falce

Committee on Banking and Financial Services

U.S. House of Representatives

Room 2129, Raybum House Office Building

Washington, D.C. 20515

Dear Mr. La Falce:

I have testified three times previously before Congress on the issues of Privatization and
Corruption. These include:

1) The Threat of International Organized Crime and Global Terrorism, U.S. House of
Representatives' International Relations Committee, September 27, 1997.

2) The Threat of Russian Organized Crime, U.S. House of Representatives' International
Relations Committee, April 30, 1996.

3) Corruption and Crime in the Former Soviet Union, Commission on Security and Cooperation
in Europe, June 10, 1994.

Two papers of mine sponsored by the National Council for Soviet and Eastern European
Research addressed this issue and were circulated within the government. They are presently
available at the Tumanov Library at the National Council. They were the following:

"Post-Soviet Organized Crime: Implications for the Soviet Successor States and Foreign
Countries," issued on February 8, 1994. A talk on this subject followed on April 11, 1994
at the U.S. Department of State.

"Privatization and Crime: The Post-Soviet Experience," issued August 10, 1995. A talk
about this paper was held at the U.S. Department of State on May 16, 1996.

I have also addressed the issue in the following fonim at the Wilson Center:
"Privatization and Organized Crime", November 18, 1996.

Center For The Study of Transnational Crime

School of Pubuc Affairs

4400 Massaghuscits avenue, NW Washington, DC 200l6«)43 Tel- 202-885-a»« Fax: 202.«85-2»BBr E-mail: lsheUe«anieikan.edu

1998.

262

I addressed the lawyers' forum at the World Bank in a seminar on corruption in July

Sincerely,

Louise Shelley
Professor and EMrector

263

Testimony of Yuri Sbvets

Before the
Committee on Banking and Financial Services

of the
United States House of Representatives

September 21, 1999

264

From 1980 to 1990 I worked with the KGB foreign intelligence service. In September of
1990, 1 resigned fix)m the agency on political grounds. It was clear to me that the
leadership of the KGB and the Soviet communist party were ruining the country.
Starting from 1988, the KGB intelligence service focused primarily on following
domestic developments in the Soviet Union. Also, it was "preparing" for future market
reforms in the country. Number one priority of any KGB officer was to work on
establishing new businesses or penetrating existing businesses, including the banks. 1 was
a senior analyst, and my responsibility included analyzing the information provided by
the field officers and composing reports to the top leadership of the country.
In this report I would like to focus specifically on just one KGB business operation. I
believe it will by example give the distinguished members of this committee a better
understanding of how Russia has been looted. This issue is widely discussed today, but
the loot in Russia started before the Soviet Union collapsed.

In September 1990, KGB active duty officer Major Chukhlantsev together with a young
free-wheeler Alexander Konanykhine established a private company named
Rosinformbank. Prior to that, 24-year-old Konanykhine had been involved in an
unremarkable construction cooperative. He did not graduate any college, was energetic
and apparently liked publicity. According to the KGB standards, he was a good candidate
for a role of a KGB front.

It should be noted that active duty KGB officers were authorized to engage in business
activities under one condition only: When their activities in private business are carried
out on behalf of and under directions of the KGB. In other words, Rosinformbank was a
joint venture between Konanykhine and the KGB. Later, Rosinformbank gave birth to a

265

number of other businesses and then vanished without a trace. Even a Russian mihtary
prosecutor office was unable (or unwiUing) to find a single document pertaining to the
establishment oi Rosinformbank. It is noteworthy, because fi-om an intelligence
viewpoint, it is essential that the first front organization to be established cover all traces
of its successor organizations or its exposure can have a domino effect on the rest of front
businesses.

In December 1 990, Konanykhine and his wife established a company named
Fininvestservice. In January \99\ , Rosinformbank (KGB) together with Fininvestservice
established a company named the All-Russia Exchange Center (AREC). In doing so,
Rosinformbank provided 100 percent of the initial capitalization of AREC, but gave away
80 percent of the shares to Fininvestservice (Konanykhine.) This may not make sense
from a business point of view, but it makes good sense from the KGB perspective: It
made Konanykhine a front for AREC. The fact that this also turned Konanykhine into an
official stockowner of AREC entitled to 80 percent of the profits did not matter. The
KGB had a large arsenal of tools and methods to solve these minor technical issues much
to their advantage.

The KGB Major Chukhlantsev was appointed "technical director" of AREC. He also
controlled AREC's finances. Other KGB officers - Boldyrev, Chukhlantsev and
Sumskoy - were appointed to the board of directors of AREC. Konanykhine officially
served as the chairman of the board and unofficially - as a front for the KGB-run AREC.
Later, the All-Russia Exchange Center established the All-Russia Real Estate Exchange,
the Secondary Resources Exchange and finally created the All-Russia Exchange Bank
(AREB). The KGB controlled all those businesses through its officers placed on key

266

positions. Usually, they would take the top positions, or positions of deputy boss, and
always filled in positions that controlled company's finances.
The All-Russia Exchange Bank was established on 24 April 1991 by the All-Russia
Exchange Center (controlled by the KGB), Investtrade (Director - KGB officer
Boldyrev), Souzinformatizatsia (General Director Ryzkhov - KGB) and the All-Russia
Real Estate Exchange (created under the KGB control.) All key decision-making
authority for the establishment of the All-Russia Exchange Bank was the responsibility of
the All-Russia Exchange Center, established and controlled by the KGB. In other words,
the KGB had full control over all those businesses from the very start.
Konanykhine fronted the KGB in the All-Russia Exchange Bank as its president.
Among the Bank's employees there were about 200 KGB officers, including several
Generals. Shortly after the aborted coup d'etat of August 1991, Konanykhine employed
General Leonid Shebarshin, former KGB Chairman and the right-hand man of Vladimir
Kryutchkov, leader of the aborted coup d'etat. Konanykhine would later claim that he
hired the KGB men for protection. With respect at least to General Shebarshin this
explanation is deceptive.

After the failed coup d'etat, the top leadership in the KGB turned into pariahs in Russia.
Kryutchkov was thrown into jail, and his men feared for their lives. They were afraid that
the events in Russia might become similar to what had happened in 1956 in Hungary,
where a nimiber of state security officers had been lynched by mobs in the streets. After
the failed coup d'etat in Moscow, the mob torn down monument of the founder of the
KGB and was ready to storm the KGB headquarters.

267

Faced with unprecedented public outrage against the KGB, most Russian government
institutions, which traditionally had served as the KGB covers, declared after the aborted
coup d'etat that they would close the KGB positions. The KGB top leadership was not a
protection any more. They were huge liability. In that situation for a private business to
employ a former KGB Chairman was next to insanity unless Konanykhine could not
refuse the KGB demand. It was not General Shebarshin, who was protecting
Konanykhine. It was rather Konanykhine, who was protecting the former KGB
Chairman.

There are strong indications that the A\\-Russia Exchange Bank was a "reliable cover" for
the KGB, where the front man would clearly understand that he was entirely dependent
on the KGB and had to comply with all the KGB instructions irrespective of the
consequences. In most cases, the front man of a reliable cover company was a KGB
human asset. The KGB had a file on him with as much of compromising materials as
possible. A standard material was a document signed by the front man, in which he
pledges to faithfiilly cooperate with the KGB. Given the importance of the All-Russia
Exchange Bank for the KGB, I believe the strictest standards were applied to
Konanykhine.

After the aborted coup d'etat of August 1991, the KGB was ostracized and soon officially
disbanded. It was reborn under the different names. The KGB men, who had penefrated
businesses and banks, continued to operate there. To avoid conftision, I will keep calling
them here "the KGB."

On 21 October 1991, the All-Russia Exchange Bank received a license from the Central
Bank of the Russian Federation that authorized the All-Russia Exchange Bank to execute

268

transactions with hard currency. The Hcense actually granted the All-Russian Exchange
Bank a monopoly on banking transactions between Russian businesses and organizations
and foreign institutions. Also, it authorized the Bank to buy and sell hard currency. The
ruble was in a free fall. Trading it was a bonanza.

According to the Russian political tradition, the decision for granting the license could
not be made without the involvement of the top government and security officials. The
motives of the decision have never been made public. It's remarkable, however, that the
monopoly for hard currency transactions was given to a group of people that had
absolutely no experience in miming a bank, not to mention working with foreign
financial institutions. In normal circumstances, their chances for obtaining the license
were nil. They were sure, however, they would get the license well before it was actually
granted. It was not surprising - the KGB traditionally had very strong positions in the
Central Bank

The All-Russia Exchange Bank did not offer or engage in or provide traditional banking
services. Its main function was to serve as a pipeline in channeling large amounts of
money out of Russia, and it operated in this capacity approximately from November of
1991 to May of 1992. The first corresponding account of the All-Russia Exchange Bank
was opened at the Central-European International Bank, Budi^jest, Hungary. The
Russian government and law enforcement agencies have never officially disclosed
amount of money channeled by the All-Russia Exchange Bank out of Russia. However, in
February 1997, the Russian interior minister Kulikov, speaking in a closed-door session
of the Russian parliament, said that as a result of Konanykhine's activities as a financier
$300,000,000 had vanished from Russia. Last week, Russian acting Prosecutor General

269

Yuri Skuratov in personal conversation confirmed to me that his office suspects

Konanykhine of participating in a scheme, which resulted in illegally taking out of Russia

at least $300,000,000.

It should be noted that when the first democratic government of Russia chaired by Yegor

Gaydar was formed, it discovered that Russian hard currency reserves were depleted.

Rubles were not fi-eely convertible, and there was an acute shortage of hard currency to

import the most essential goods - food and medicine. In this situation, the government

appealed to the West to provide humanitarian aid to Russia. The aid, paid by the Western

taxpayers, started to flow in. At the very same time, hundreds of millions of U.S. dollars

were secretly channeled from Russia to the West by the Bank run by the old KGB guard

and Konanykhine.

In his resent appearance on CBS' 60 Minutes, on 19 September 1999, Konanykhine

acknowledged that $1 billion was stolen torn Russia through the All-Russia Exchange

Bank.

Konanykhine was not a mastermind of the crime. However, given the information

available to me at this point I strongly believe that he was an accomplice, who knowingly

participated in the crime.

In summer of 1992, the "pipeline" shut dovm - the Bank stopped channeling money out

of Russia. Inexperienced founders of the Bank did not know how to operate it in normal

circumstances, and it went de-facto bankrupt. Former KGB senior officials - the real

masters of the Bank - withdrew. Lower-ranking KGB officers, formal officials of the

Bank, started quarrel with Konanykhine over the remaining $12 million left on the

Bank's accounts.

270

In September of 1992, Konanykhine entered the United States. He claims he had
narrowly escaped a KGB attempt to kidnap him in Budapest, Hungary. The
circumstances of this story, however, show that it was a mock kidnapping, if any
kidnapping at all. It looks much more as an attempt of accomplices of the theft to split the
profits "nicely."

The next major financial operation was started by Konanykhine in March 1993, out of
Willard hotel in Washington, D.C. At that time, Boris Yeltsin entered into a mortally
threatening clash with the Russian parliament and no one could predict the outcome of
this clash (it climaxed with Kremlin sending tanks to shell the parliament building in
October of 1993.) Raising tension in Moscow was accompanied by massive flow of
capital out of Russia.

During this critical period Konanykhine, together with his partner, Yelena Cidorchuck,
approached an American consulting firm with a project: to establish a bank, which was to
receive billions of U.S. dollars fi"om Russia. He also is seeking about 125 naturalized
foreign passports and diplomatic passports at any cost for very special Russian clients.
His partner, Yelena Cidorchuck, made it clear to the American consulting firm they had
retained that she and Konanykhine were working for the top political and social elite of
Russia. They were receiving instructions fi-om Moscow. The establishment of the bank
and the purchase of naturalized foreign passports for the prominent political and social
elite was a matter of urgency.

Technically, the whole operation launched by Konanykhine in Washington, D.C. has a
strong resemblance to the story of Golden Ada - a Russian company established later in
San Francisco, whose objective was to build Boris Yeltsin and his close associates a

271

financial heaven in the U.S., where they could escape in case of Yeltsin's defeat in
presidential elections of 1996.

There are indications that Konanykhine and his partner were working on a similar project
on the eve of a bloody clash in Moscow of October 1993. He acted in capacity of vice-
president of Menatep Bank. Details of Konanykhine's operation indicate that Russian
intelligence officials were involved in it, at least on the planning stage. My personal
knowledge as a former intelligence officer suggests that the people who directed this
operation fi-om Moscow understood that very soon American government agencies might
learn about it but turn a blind eye on it. Apparently, the Russians believed that their clout
as a bastion against communism in Russia would outweigh their "small sins." Without
this understanding the Russian masters would never dare to execute the operation out of
American capital.

In March 1994, the Russian Military prosecutor office starts criminal proceedings against
Konanykhine charging him of "gross embezzling of state property and personal property
- funds through fraud." On 30 September 1994, the Russian government requested his
extradition to Russia. Konanykhine was not discouraged. In December of 1994,
Konanykhine made a short trip to Moscow and then went to Antigua, where he worked
on the establishment of European Union Bank. The trip to Moscow shows that he did not
believe he would be persecuted there and was not afraid for his life, something he
claimed later while applying for political asylum.

Konanykhine was arrested by the INS and sent to jail in June of 1996. Prior to the hearing
of Konanykhine case in the INS court, the Russian military prosecutor's office sent to the
INS documentation, which was supposed to substantiate criminal charges against him.

272

Close examination of the Russian file showed it was an attempt to cover up KGB crucial
role in setting and operating the All-Russia Exchange Bank, and also the real scope of
Bank's operations. Russian military prosecutor's office, traditionally heavily influenced
by the KGB, portrayed Konanykhine as the only culprit of the theft and charged him with
embezzling of "just" $8.1 million. Missing $300,000,000, not to mention $1 billion, was
not mentioned. In was a classic KGB cover operation, when a smaller thief is exposed in
order to protect the big ones.

On the first hearing at the INS court Konanykhine was denied political asylum he
requested, but at second hearing political asylum was granted. In my opinion, both
decisions were a mistake. The first decision was based on claims of the Russian military
prosecutor taken at face value even though the INS had been notified the Russian
documentation was a cover-up. The second decision totally missed the fact that although
Konanykhine was not a mastermind of the theft, he was an accomplice. I believe it was
made possible because the INS could not present to the court all documentation that was
available to other U.S. govenmient agencies.

As a result, decision on granting political asylum to Konanykhine opens the door to other
Russian money launderer to apply for political asylum in this country or to the KGB
human assets to establish themselves in the U.S. This case also shows that cooperation
with the Russian law enforcement agencies on money laundering cases may be tricky.
The Russian law enforcement agencies are widely corrupt and split between supporters of
different Russian interest and often organized crime groups. On the other hand, given the
rampant corruption and unprecedented expansion of organized crime in Russia, it is
impossible not to cooperate with the Russian law enforcement institutions, and there are

273

honest people there, even though they do not have upper hand now. The solution may He
in following the old Russian proverb: 'Trust but verify," meaning at least to scrutinize
the documentation supplied by the Russian side. I believe that mistakes on Konanykhine
case could have been avoided by timely and thorough analysis of all relevant information.
Money laundering and organized crime in Russia have reached proportions
unprecedented in human history. To a large extend it was made possible because large
segment of the Russian bureaucracy reaching the top of the government has become the
most dangerous part of organized crime. It is useless to appeal to Yeltsin's regime to
solve the problem. The issue of what to do with the Russian kleptocracy has become an
international problem.

Institutionalized crime ruins Russia. It represents a serious threat to the whole world
given Russia's vast territory and huge arsenals of weapons of mass destruction and
nuclear power plants. In the present situation, to continue financial assistance to Russia
means to further enrich and pervert corrupt Russian elite. The house must be cleaned
first, and money stolen from the Russian people should be found and returned to them.
Russian and Western intelligence services, looking for a sound objective after the end of
the cold war, may find a noble assignment here and fertile turf for cooperation. The most
odious thieves must be identified and punished. The Russian elite must be told laud and
clear that if they ruin the country, transfer money to the West and plan to get away when
the country collapses, it will not work. They will have to stay in Russia harvesting results
of what they sowed. This message and determination to implement it may become a
major deterrent of corrupt Russian elite. Any future financial assistance to Russia should

274

be redirected from the Russian government to the grass-root level, where it can reach
Russian people, and it should be done under strict international control.
Some analysts say that tough Western position towards the Russian government on
corruption issues may have alienated Russia. I believe, it is not so. As the Russian saying
goes, "Those who pay the money call the tune," and in Russia it is taken for granted. As
long as the Western taxpayers pay Russian government bills, the West is entitled to state
its position on corruption issue laud and clear. Otherwise, it sends the wrong signal to the
Russian people that the West sides itself with the "corrupt guys in Kremlin." We should
stop worrying about sensibility of corrupt Russian bureaucracy. People that loot their
own country have no sensibiUty. They are totally dependant on the West, because this is
the West where they build their safe heavens.

Today, some analysts say that at least a generation is needed to return Russia back on
track. I do not think so. Russian is not lost yet. Well-designed and dihgently implemented
American policy on Russian money laundering and corruption issues may make a big
difference for Russian people. It will be much cheiq)er than the present sponsoring of
Russian crony capitaUsm. It will bring positive results faster. And it will be a contribution
the Russian people will appreciate very much.

Yuri Shvets

275

Testimony of Anne Williamson

Before the

Committee on Banking and Financial Services

of the

United States House of Representatives

September 21, 1999

276

Before I begin my testimony, I just want to take a moment to thank
Chairman Leach and Ranking Member LaFalce for the opportunity to share
with the House Committee on Banking some of the things I have learned
over eight years of watching our Russian assistance program unfold.
Chairman Leach, I particularly want to commend your efforts to lead the
Congress on this very timely investigation of the true nature and unhappy
consequences of our Russian policies.

I should like to add just a few words about myself by way of
introduction. I am the author of CONTAGION: THE BETRAYAL OF
LIBERTY; RUSSIA AND THE UNITED STATES IN THE 1990s, which will
be available to Committee Members and the American public in time for the
nation's Thanksgiving holiday. Prior to beginning my work on the book, I
covered just about all things Russian for a broad range of publications which
included inter alia The Wall Street Journal, The New York Times, Mother
Jones, Art and Antiques, Premiere, Film Comment and SPY Magazine.
From the late 1980s until 1997, 1 maintained homes in both Moscow and the
United States. And therefore I can say for much of the last decade I had the
privilege of being a witness to a dramatic history and the pleasure and
excitement of sharing with the Russian people their remarkable land,
language and culture. And it is with a profound gratitude to and a deep
respect for that noble, heroic and too long-suffering people that I speak to
you today.

In the matter before us - the question of the many billions in capital that
fled Russia to Western shores via the Bank of New York and other Western
banks - we have had a window thrown open on what the financial affairs of
a country without property rights, without banks, without the certainty of
contract, without an accountable government or a leadership decent enough
to be concerned with the national interest or its own citizens' well-being
looks like. It's not a pretty picture, is it? But let there be no mistake, in
Russia the West has truly been the author of its own misery. And let there
be no mistake as to who the victims are, i.e. Western, principally U.S.,
taxpayers and Russian citizens' whose national legacy was stolen only to be
squandered and/or invested in Western real estate and equities markets.
The failure to understand where Communism ended and Russia began
Insured that the Clinton Administration's policy towards Russia would be
riddled with error and ultimately ineffective. Two mistakes are key to
understanding what went wrong and why.

The first mistake was the West's perception of the elected Russian
president, Boris Yeltsin; where American triumphalists saw a great democrat
determined to destroy the Communist system for freedom's sake, Soviet
history will record a usurper. A usurper's first task is to transfomn a thin layer

277

of the self-interested rabble into a constituency. Western assistance, IMF
lending and the targeted division of national assets are what provided Boris
Yeltsin the initial wherewithal to purchase his constituency of ex-Komsomol
[Communist Youth League] bank chiefs, who were given the freedom and
the mechanisms to plunder their own country in tandem with a resurgent and
more economically competent criminal class. The new elite learned
everything about the confiscation of wealth, but nothing about its creation.
Worse yet. this new elite thrives in the conditions of chaos and eschews the
very stability for which the United States so fervently hopes knowing full well,
as they do, that stability will severely hamper their ability to obtain
outrageous profits. Consequently, Yeltsin's "reform" government was and is
doomed to sustain this parasitic political base composed of the banking
oligarchy.

The second mistake lay in a profound misunderstanding of Russian
culture and in the Harvard Institute of Intemational Development advisers'
disregard for the very basis for their own country's success; property rights.
It was a very grave error. Private property Is not only the most effective
instrument of economic organization, it is also the organizational mechanism
of an independent civil society. The protection of property, both of
individuals' and that of a nation, has justified the existence of and a
population's acceptance of the modem state and its public levies.

Russian property rights are tricky; property has never been
distributed, but only confiscated and awarded on a cyclical basis. For the
big players property exists, as It always has, <\>only</\> where there is
power. For the common man, the property right hasn't advanced much
beyond custom which prevents the taking of any man's shelter, clothes or
tools so long as continuous usage is demonstrable. An additional, purely
Slavic feature of the Russians' concept of property is the shared belief that
each has a claim upon some part of the whole.

In ancient 'Rus, property existed for the individual as a claim - or an
entitlement if you will - to a shared asset, a <\>votchina</\> or "estate", held
by all the members of a particular clan. This understanding of property still
informs the culture; though Westemers bemoan Moscow mayor Yury
Lyuzhkov's retention of the system of the residential permit ("propiska") as
an impediment to a flexible labor force, the policy is one of Lyuzhkov's most
popular. Muscovites are well-satisfled with a mayor who polices outsiders
as they believe any proprietor of such a great estate as Moscow should.

278

human need for predictable event undergirded by civil and state institutions
and their difficult history is the result of their struggle to achieve both in the
absence of private property.

Since only the Tsar or the Party had property, no individual Russian
could be sure of long-term usage of anything upon which to create wealth.
The property right matters most of all to the poor because property is the
poor man's ticket into the game of wealth creation. The rich, after all, have
their money and their friends to protect their holdings, while the poor much
rely upon the law alone.

In the absence of property, it was access - the opportunity to seek
opportunity - and favor in which the Russians began to traffic. The
connections one achieved, in tum, became the most essential tools a human
being could grasp, employ and, over time, in which he might trade. Where
relationships, not laws, are used to define society's boundaries, tribute must
be paid. Bribery, extortion and subterfuge have been the inevitable result.
What marks the Russian condition in particular is the scale of these
activities, which is colossal. Russia, then, is a <\>negotiated<l\> culture, the
opposite of the openly competitive culture productive markets require.

Ironically, the nontransferability of the <\>votchina</\> system's
entitlement was the very flaw a shareholding culture and an equities market
could have addressed successfully had Lenin's revolutionary dictum of
"Property to the people! Factories to the workers!" been realized. <HREF
A>www.bookagency.com/oiigarchy8i.htmi>And such a program existed. </A> It was
designed by Larisa Piasheva, a free market Russian economist who was
appointed by Moscow mayor Gavriil Popov to design and execute a program
for the privatization of Moscow's assets. Ms. Piasheva's program was a
feariess and rapid plunge into the market which would have distributed
property widely into Russia's many eager hands. Further, the program -
inspired as it was by the policies of Werner Erhard and his adviser, the
renowned Austrian economist Wilhem Ropke - did not rely upon Western
lending but instead tailored itself to maximize direct Westem investment.

When the Administration says it had no choice but to rely upon the
bad actors it did select for American largesse. Congress should recall Larisa
Piasheva. How different today's Russia might have been had only the Bush
Administration and the many Westem advisers from the IMF, the Worid
Bank, the Intemational Finance Corporation, the European Bank for
Reconstruction and Development and the Harvard Institute of Intemational
Development then on the ground in Moscow chosen to champion Ms.
Piasheva's vision of a rapid disbursement of property to the people rather
than to the "golden children" of the Soviet <\>nomenklatura.</\>

279

Instead, after robbing the Russian people of the only capital they had
to participate in the new market - <HREF

A>www.worldnetdaily.com/blueslcy Williamson/ 19990901 xcawi inconve.shtml>the nation's

household savings </A> - by freeing prices in what was a monopolistic
economy and which delivered a 2500% inflation in 1992, America's "brave,
young Russian reformers" ginned-up a development theory of "Big
Capitalism" based on Karl Marx's mistaken edict that capitalism requires the
"primitive accumulation of capital". Big capitalists would appear instantly,
they said, and a broadly-based market economy shortly thereafter if only the
pockets of pre-selected members of their own ex-Komsomol circle were
properly stuffed. Those who hankered for a public reputation were to secure
the govemment perches from which they would pass state assets to their
brethren in the nascent business community, happy in the knowledge that
they too would be kicked back a significant cut of the swag. The US-led
West accommodated the reformers' cockeyed theory by designing a rapid
and easily manipulated voucher privatization program that was really only a
transfer of title and which was funded with $325 million US taxpayers'
dollars.

Voucher privatization's conceits were compounded by a grievous
insult; unregulated voucher investment funds, which the privatizers
encouraged the uncertain Russian citizenry to patronize. Hundreds and
hundreds of investment funds simply walked with their clients' vouchers,
reselling them to domestic criminals, Red Directors, western investment
banks and international money launderers. In other words, the lion's share
of Russian money laundering occurs when capital enters the country, and
what we see today in the Bank of New York scandal is, in fact, properiy
understood as capital flight. When the 18 month-long thieves' banquet that
voucher privatization was concluded in July 1994, the program, whose very
design left the controlling shareholding of any single enterprise in the hands
of the state, had actually institutionalized the state as the determinant owner
of all that had formeriy belonged to "the people".

Co-temporaneously with voucher privatization, an eariy and
precipitous Bush Administration initiative was coming to fruition. In early
1992, the "Bankers Forum" project was wheeled into place by a former New
York Fed chief, Gerald Corrigan, who at George Bush's direction sent in a
group of experts from the Fed, commercial banks and the Volunteer Corps
on an off-the-books mission to teach the Russians at the Central Bank the
bond game. Moscow-based Dialog Bank's Peter Derby, who explained the
project's background remarked, "Basically, when Corrigan asks, I guess no
one tums him down, because people reacted instantaneously. It was done
by <l>private investors</l>, who were asked by <l>a person you can't say
no to" (my emphases).

280

The improbable yields (290% on 3-month paper at one point) on the
Russian market's GKO instruments were paid with US taxpayers' money via
IMF loans. Guess where all investment went? By yielding those kind of
non-market returns, the bond market insured that all the country's resources
and all that it was capable of attracting went to the support of the state, just
as Tsarism and Communism had done previously.

So lush were the bond market's rewards that dubious market
participants included the Russian Central Bank itself through an off-shore
firm known as Fimaco. The involvement of the Harvard Institute of
International Development's [HMD] honchos in the same conflict-of-interest
activities has already been admitted publicly and remains the object of a
Boston grand jury's scrutiny. The Harvard Management Corporation, which
invests the university's endowment, was also an avid purchaser of Russian
bonds, a dubious and unsettling history since there is no legal separation of
HMC and the university itself. According to the Russian Interior Ministry's
Department of Organized Crime, Western employees of Russian banks,
Western bankers and consultants, Russian bankers and anecdotal
evidence, other likely participants include certain employees of the U.S.
Treasury, of the multilateral agencies (most especially the World Bank's
Moscow offices), of bilateral aid agencies, and policy and program
consultants acting through accounts established in their wives' maiden
names with non-U. S. reporting brokerages in Moscow. Even the Ford
Foundation's Moscow office sponsored its own internal Russian bond shop
for which the unthinking Russian managers once asked this reporter to drum
up U.S. investors.

One particularly striking aspect of Bill Clinton's presidency is how
aggressively his administration has worked to capture the political support of
the financial sector, offering up heretofore unseen gobs of government favor.
(A disproportionate number of firms receiving OPIC guarantees, Export-
Import bank lending, and IFC and Russian Enterprise Fund participation
were generous contributors to both Clinton campaign coffers and the DNC.)
The basic formula was simple, it's not the rocket science Russia's Harvard
advisers intimated it was: The bread and butter of all equity markets are
bonds. Wall Street wanted a debt market. You build it and we'll come, they
said.

The aid program delivered best it could what was in reality a flimsy
contrivance, which - in turn - was really only an exotic venue through which
to pass public funds to select Russians of the Clintons' and HMD's choosing
and to Wall Street investment banks the Clintons hoped to entice
permanently into their orbit of supporters and contributors. In short, <HREF

A>www■worldnetdaily■com^lueslcy exnews/ 1998007 xex an imperial ■shtinl>the RuSSlan

bond market</A> was the Arkansas Development Finance Authority gone
international.

281

Today the Clinton Administration's chief defense for their hand in
Russia's min is that somebody had to keep the communists at bay. But
there were no communists In Russia by late 1991. only nascent investment
bankers looking to nail down a stake any which way. Communism had
evaporated by late 1987, the year in which the Russian people were allowed
to hold convertible foreign currencies. Overnight, the power of money
displaced the power of ideology.

Though some now say the loans-for-shares privatization program
marked the reformers' fall from grace, but I beg to differ. On 14 September
1991, Vladimir Shcherbakov, the last First Deputy Prime Minister of the
Soviet Union, formed with two other partners, one of which was the now
notorious Austrian fimri, Nordex GmbH, the International Foundation for
Privatization and Private Investment [FPI]. FPI's charter was legitimized by
Gorbachev's signature and approved by 13 heads of what were still
constituent republics.

In an interview published in a 1993 issue of VIP, the vanity organ of
the commercialized <\> nomenklatura. </\>, Shcherbakov reported excellent
relations with the new regime of "eager young reformers" - Gaidar, Chubais
et a! - and their leader Boris Yeltsin. All hail-fellows-well-met. So too did
FPI enjoy similariy sympathetic connections to <\>the EBRD, the IMF and
the UN Industrial Development Organization. <l\> Shcherbakov even
boasted about FPI's "new approach to the problem of the property of the
Western Army Groups in Eastem Germany that comes down to its joint
exploitation by Russian and German businesses", an eyepopping admission
worthy of considerable note since a year after the interview was published,
<\>the<l\> Russian scandal was Bonn's claim that Soviet weaponry sales to
rogue regimes originating in the Westem Army Group had amounted to a $4
billion criminal take.

A former employee of FPI, speaking through clenched teeth,
reported, "It's [FPI] not a well-known organization, but it's one of the most
wealthy and most powerful organizations in Russia," and their work was
engineering commission-paying deals for money or privilege with the
Kremlin, thereby organizing a pipeline of tribute typical of corrupt regimes. "I
can't say it publicly, I can't prove my position with documents, but I know
they were privatizing companies, the very best companies, before we had a
privatisation program."

The CIA has been detemnined that through Nordex, FPI seized the
export eamings from Russia's natural resource companies - oil, gas,
platinium, gold, diamonds - and from industrial fimns exporting items such as
steel and aluminum and then stashed the outrageous profits in Westem
bank accounts. And only now, eight years almost to the day later, do US

282

taxpayers learn that the "eager, young refomers" to whom their resources
were sent for the purpose of building a new Russia were in league from day
one with the exhausted Soviet <\>nomenklatura</\> in a scheme to loot
Russia's wealth and park it in the West.

Yegor Gaidar insists to this day, John Lloyd was good enough to
remind us in his recent New York Times Sunday Magazine article, that "he
had no choice but to let prices rise to increase supply and to scrap trade
barriers so that foreign commodities could begin to fill store shelves."

Gaidar's assertion is untenable. The Soviet Union was economically
self-sufficient except for bananas, coffee and coconuts. Foreign
commodities weren't required to fill Soviet shops. And even though the ruble
was not convertible, that characteristic had nothing to do with the sudden
shortages in late autumn 1991, which were only slightly worse than those
normally encountered in the last thin years of Gorbachev's
< I >perestroika</\>.

No one had stopped producing, but shops were suddenly neariy
empty. Producers had begun hoarding, as had fearful consumers, but why?
It wasn't that Yeltsin announced in November 1991 that the government
intended to free prices, it's that he also announced <\>the exact date</\> on
which prices would be freed. Predictably, producers withheld their product
from market and rubbed their hands together like flies awaiting the coming
feast which Yeltsin's newly announced policy guaranteed. Within a week of
the ill-considered speech, Muscovites' needs were being rationed.

However, Gaidar really was under pressure, but the pressure was
coming from the West to open Russia to unrestricted imports in retum for
multilateral lending. Gaidar soon delivered a trade policy that was 100%
back-to-front, accommodating as it did the self-serving demands of both the
West and Russia's nascent banking oligarchy; Russian manufacturing was
to take the brunt of unrestricted foreign competition, but domestic banking
was to be protected from competition! Even Russian Central Bank
Chaimian Viktor Gerashchenko protested, but the Russian bankers were
accommodated and the IMF continued lending. So much for the "leverage"
foreign policy elites claim foreign assistance programs provide the U.S.

In 1991, there was no hope whatsoever that wheezebag Soviet
industries could compete with Westem products. For decades, prices were
set by <l>Gosp/an</l> (State Ministry of Central Planning), any enterprise
profits were claimed as Soviet tax revenues, all customer bases were
guaranteed and therefore no enterprise had a financial incentive to compete.
Without competition, there was never any need to improve quality.

283

How could freeing prices alone change this equation? Free prices
only work to the benefit of consumers when producers compete with one
another in the marketplace to satisfy customers' demands, leaving
consumers postitioned to reap the most benefit at the lowest price. Clearly,
an equitable and transparent privatization that would have delivered property
widely to Russia's many eager hands should have preceded the freeing of
prices. And during privatization, native producers should have enjoyed some
protectionism at least, as did developing American industry and manufacture
in the 1 9*^ century.

Competent advisers would have known Russia never did develop an
effective banking sector and system of credit in a 1000 years of her history.
The story of Russian banking - ancient and modem - always has the same
plot, only the names and the dates change. S.Y. Borovoi's easily obtained
history of 18*^ century banking outlines a typical episode involving a certain
"Suterland, who received 2 million pounds for transfer to London, but instead
lent the sums to Prince Potyomkin (800,000), Finance Minister Vyazemsky,
Foreign Minister Bezborodko and even to the future emperor Pavel. The
debt of these honorable people was, <\>according to the custom</\>,
forgiven and paid by the state."

Certainly eager Westem banks should have been given admission to
Russia. By working initially with more developed and well-capitalized
Westem banks and later by competing with them, Russian banks could have
developed quickly and today be mediating capital responsibly and profitably.
No good economic purpose was achieved by foisting subsidized billion dollar
loans onto Russia for the purchase of Westem consumer goods.

Once the crime of voucher privatization was fully realized, thereafter
ensued a years-long highly-criminal and oftentimes murderous scramble for
hands-on control of the enterprises. Directors stashed profits abroad,
withheld employees' wages and after cash famine set in, used those wages,
confiscated profits and state subsidies to "buy" the workers' shares from
them. The really good stuff - oil companies, metals plants, telecoms - was
distributed to essentially seven individuals, "the oligarchs", on insider
auctions whose results were agreed beforehand. Once effective control was
established, directors - uncertain themselves of the durability of their claim to
the newly-acquired property - chose to asset strip with impunity instead of
developing their new holdings.

Unsurprisingly, the entire jury-rigged effort has collapsed in flames.
The bond market has gone bust, Russia is crushed by her IMF loan
payments, and OPIC's neariy $2 million in U.S. taxpayer-provided
guarantees are yet to be resolved. The West's best course under whatever
new govemment the Russian people elect is to take its own advice, stop
meddling, cease all subsidies and allow what few market mechanisms that

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do exist in Russia to work. The sooner the banking industry's
<\>pylesos</\> ("vacuum cleaners") are allowed to fail, then the sooner the
national property can return to market where more able and productive
hands might yet grasp it.

Until Russians have resolved for themselves how property is to be
held and secured their decision <l>de jure,</\> all the destnjctive economic
arrangements and cultural behaviors crowding Russian history will continue.
Wealth will not be created without private property; without transferable
property secured legally to protect no Russian will pay taxes; without
revenues no Russian govemment can endure without falling back upon what
is every state's final reserve; coercion.

The years-long sugarcoating of what the Clinton administration's
policies have wrought in Russia is just one more lie bequeathed Americans.
More Western money will only work to insure the continued degradation of
Russia, bequeathing her people a future that can be discerned in that most
familiar object of Russian folk culture - the Matryoshka nesting doll - a
perfect, visual metaphor of Russia's Brechtian universe: Each figure is
captive, one inside the other, and in the end the biggest doll consumes the
lot.

Turning to the question of the IMF and the World Bank generally and
their specific roles in intemational finance, much needs to be said. When
libertarians say that government produces nothing, they make a serious
error. Government produces one thing in abundance - our money. US paper
fiat dollars have no intrinsic value and circulate only by faith and by edict.
Consequently, the dollar in a baby boomer's pocket is worth but the penny
that was in his grandfather's purse less than a century ago. But granddad's
penny was one hundredth of a gold-backed dollar's value, while today's
dollar is the product of a government-operated pyramid scheme. Once the
state slipped the "golden handcuffs" of budgetary discipline through the
establishment of the Federal Reserve System, it gained the ability to create
unlimited debt, thereby claiming for itself what before had been the purview
of tyrants - the ability to debase the currency. It is the slow leaching of value
from the US dollar, not the far lesser sums raised by direct taxation, which
has enabled the political class to purchase votes for its re-election. The
degradation of American society since 1971 is often remarked upon.

Any pyramid scheme remains viable only so long as its base
continues to expand and it is that fact which has driven US foreign policy for
much of the past century. Since politicians and investment bankers both
have an interest in promoting deficits and in forcing taxpayers to redeem
govemment debt, they were quick to come to terms on the advantages of
underwriting foreign debt along with new markets and natural resources
from abroad. Taxpayer-subsidized globalism then is not a new phenomenon,

285

but it has reached an apogee of sorts under the guiding hand of the current
Clinton Administration.

Once the criminal financial flows from Russia and Asia were
combined with the easy money common to presidential election cycles and
began pumping into the economy in the spring of 1995, it wasn't long before
asset inflation hit US corporate share valuations. Throughout 1995 and
1996, the money supply kept rising, and along with it mutual fund holders'
paper wealth. Attracted by the double-digit yields found in risky, unregulated
environments abroad, the banks - given the election year liquidity the Fed
wished to export - lent unwisely and to excess. The moral hazard the 1995
$40 billion bailout of Mexico unleashed (the debt was refinanced, not repaid,
with additional IMF lending and proceeds from eurobond sales in 1996) led
to a tripling of international capital flows. Investors took greater and greater
risks in the belief that the "new paradigm" promised taxpayer-provided
redemptions if necessary. The consequence of all those dollars frolicking in
exotic locales is a $141 billion bailout for Asia, more than $20 billion for
Russia in 1998 alone, and $30 billion for Brazil in 1999.

Cures under discussion all share one quality; each has some aspect
that degrades American citizens' independence and prosperity. It is one
more irony of the post-cold war environment that ambitious American
policymakers, who were so busy "reforming" Russia in the most appallingly
cavalier and self-serving fashion, failed to honor the lesson Russia has to
teach, i.e. liberty and empire do not cohabit.

The 1930s were the last era in which the international political and
financial elite sought advantage through control of the global economy. What
economists call "hot money" raced from one nation to the next throughout
that era, leaving a trail of competitive currency devaluations in its wake. Six
decades ago, as nation after nation was humbled by and strangled with the
manipulations of the financial world's insiders, history saw fit to serve up
Adolph Hitler.

A world war and a score of years later, the allies established the IMF
as a prophylactic money bag to prevent destabilizing trade imbalances and
therefore, they thought, a repetition of the preceding decade's nightmare.
Yet over half a century later, the IMF, the World Bank and their similarly US-
controlled spawn - the IFC, the six regional development banks and the
EBRD - have become 800-pound gorillas of economic distortion and, over
time, of pillage which unchecked will guarantee extensive international
conflict and a broadly-based anti-Americanism.

During the Cold War, the International Monetary Fund got itself
repeatedly into all sorts of financial and ethical mishaps in the West's effort
to contain the Soviet empire. But the IMF's excesses were of little concem

286

so long as its financial firepower could be directed at whatever nation
appeared on the verge of toppling into the Soviet camp.

No longer serving in an arguably wasteful manner what was
nonetheless an agreed national purpose, the IMF has come to function
increasingly as the personal gift of the office of the US Treasury courtesy of
that office's service to the US presidency. The US-dependent IMF has been
well pleased; far easier to serve a single master than answer to a committee
of Congressmen such as yourselves.

The ascendancy of Treasury In foreign policy at the State
Department's expense is the result of a neo-mercantilist foreign policy in
which enterprise is to be subject to direction from the presidential
administration it is to serve. By expanding the mandates and accelerating
the use of a host of intemational agencies in which the US is dominant - the
IMF, the World Bank, the EBRD, the regional development banks, the IFC -
and combining their efforts with those of the Commerce Department, the
Export-Import Bank, OPIC and USAID-financed Enterprise Funds, the
Clintons succeeded in constructing an intemational patronage machine in
which the American executive stands supreme.

Today the president's men are seeking to institutionalize the
socialization of private investors' and global bankers' risks in intemational
markets via a freshly-capitalized IMF. The price of the US's $3.5 billion
contribution to the proposed IMF bailout fund on top of another requested
$14.5 billion was said to be insignificant when weighed against the financial
calamity of a worldwide recession that IMF ministrations and policing could
avert. But how true is this?

Taking the IMF's behavior in Russia as a guide, the answer is that we
can expect a rapid escalation of taxpayers' liabilities in the service of failed
policies. After the chaos unleashed by the Fund's initial advocacy of a single
ruble zone for the Commonwealth of Independent States, which handed
management of the ruble to 12 central banks, the Fund's monetary sages
settled down to their more usual business of lending large sums in retum for
secret, IMF-designed recovery programs always said to be strictly enforced.
In Russia's case, only the rhetoric of strict conditions was enforced.

For example, when the IMF touted a 1996 $10.2 billion loan on the
basis of what an extraordinary job Russia had done in meeting the
conditions of a 1995 $6.7 billion loan, one cmcial detail went unmentioned.
The $6.7 billion loan was extended without any conditions via the IMF's
Systematic Transformation Facility, a program designed to funnel money to
Russia in return for Ihe promise to reform". Also left unsaid was that through
the magic of money's fungibility, the $6.7 billion loan financed - almost to the
kopeck - Yeltsin's bloody and disastrous assault on Chechnya.

287

Following the Russian Connmunists' success in the December 1995
parliamentary elections, the Fund proceeded into even dodgier territory with
the 1996 $10.2 billion loan, which came front-loaded with a billion dollars
meant for Yeltsin's re-election. In return, tape recordings of conversations
between Mr. Clinton and Mr. Yeltsin made public demonstrate that longtime
Clinton supporter and campaign donor Tyson's Chicken's business of
exporting chicken to Russia - a $700 million annual business - was
protected from a threatened 20% tariff increase.

Once the first tranche's payout of a billion plus dollars arrived the
following May, Yeltsin pulled out all the stops; back wages for state
employees and pensions were paid, and after the IMF's billion was
consumed, the capricious Siberian ordered his initially mulish Central Bank
to hand over a billion more. The IMF said nothing despite claiming the
Fund's main achievement in the past 6 months was legislation establishing
the Russian Central Bank as an independent institution. Therefore, the
Fund's current denial of any knowledge of the Russian Central Bank's
offshore operations through Fimaco are dubious.

But weren't Americans told that Russia's financial oligarchy paid for
Yeltsin's re-election? To the contrary, Russia's bankers made serious
money on Yeltsin's electoral weakness by buying govemment bonds at
distressed prices using cheap money handed over from govemment
deposits. The lion's share of the domestic bonds' high yields have always
been paid with IMF loans. Russia's first representative to the Worid Bank,
Leonid Grigoriev, explained, "Of course, the government was to return this
money and that is why the yields on 3-month paper reached as much as
290%. The government's paying such huge, impossible rates on treasury
bills, well, it's completely unbelievable. It had nothing to do with the market
and therefore such yields can only be understood as a payback, just a
different method."

Cleariy, building an empire of finance capitalism is an expensive
business. But who pays? US taxpayers and Russian workers, who paid
indirectly by having their wages go unpaid and their national estate
continually degraded. Secondly, the Russian people paid by being denied a
means of exchange since the banking and trade sectors of the economy
were quick to socialize amongst themselves what few rubles the IMF's tight
money policies allowed the Russian Central Bank to print.

"The new paradigm" economy concocted by the Harvard-connected
Clinton Administration appointees in the US Treasury, was designed to
extend the federal government's meddling hand woridwide through its
control of the multilateral and bilateral public lenders, enabling govemment a
free ride on the back of a re-structured U.S. economy grown vigorous and

288

ever more innovative on account of the benefits the Reagan era's low
taxation, moderate inflation, reduced regulation and expanding world trade
had delivered. The overall scheme works as follows:

Sell assistance programs on an alleged "^ree market" and
"humanitarian" basis by awarding govemment grants to those academics
who can be relied upon to supply the intellectual camouflage politicians and
journalists then repeat <\>ad nauseum<l\> to a distracted public, move the
IMF and the World Bank to target, induce target to raise taxes, fine tune
target's central banking operations, encourage borrowing and debt creation
through the target's govemment and its national banks, allowing IMF lending
to pay yields if necessary; induce target to privatize national property while
building a flimsy, artificial "infrastaicture" for an equities market good enough
to attract high risk foreign investors. Once the target nation's govemment
flounders, step back and watch speculators assert discipline through a mn
on the target's currency. The subsequent devaluation delivers, in turn, a
flood of cheap imports to American manufacturers and producers.

The finishing touch on the swindle is to confiscate more money from
G-7 citizens (the lion's share from Americans) to pay for what is said to be
an "essential" IMF bailout; thereby allowing Uncle Sam's IMF minions to
entrench themselves more deeply in the target's govemment. Taxes are
raised, the population struggles beneath indebtedness, govemment funding
demands and the inevitable domestic inflation a devaluation delivers.
Western neo-colonialists then bully the target over its rapidly compounding
debt in order to extract yet more property. Once successful, the worid's
insiders then turn around and deliver cheap shares from privatizations and
initial public offerings into the maw of US mutual funds and portfolio
investors. US taxpayers get hit coming (foreign aid) and going (bailouts)
and innocent foreigners' property is finagled away either from, or on account
of, inattentive and corrupt leaderships. The big winners are the worid's
increasingly corrupt and cozy governing class, international bureaucracies
and global banks.

What US policy has wrought across much of the post-cold war
landscape is a moral, political and financial abomination based on fraud,
theft and deceit. In Russia the results of the Clinton Administration's policies
are the perpetuation of the longest depression of the 20th century in what is
increasingly an unpoliced deadly weapons dump, the biggest swindle of
national property since Vladimir Lenin muscled the country eariy in the
century and the discrediting of the ideas of free markets and democracy.

But as the old saying has it, what goes around comes around.
Unfortunately, all those dollars the Fed printed to get Bill Clinton re-elected
in return for Alan Greenspan's third appointment as central bank chief, are

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now returning to the United States in the fomn of manufactured goods and
commodities with which U.S. producers can not compete on price.
When exchange rates fluctuate against one another as they do now, some
countries will inflate more quickly than other countries. The G-7 are the only
nations that try to co-ordinate their monetary policies and the effort usually
ends up a failure over time. When one country inflates too quickly, the value
of its currency will decline.

Some governments - especially those with an election on the horizon
- actually want to devalue since national exporters, their goods now being
cheaper, sell more goods. Global lenders like the IMF are also fond of
devaluations because a rising national income from bargain exports leave
plenty in the national kitty for principal and interest payments to them.
(Global direct investors who stick to the dollar, quasi-"good guys", fear
devaluations, because their profits calculated in a devalued domestic
currency buy fewer dollars for repatriation.)

But when exchange rates depreciate rapidly the specter of capital
flowing out of a country appears. Foreigners and residents put their savings
elsewhere. The currency goes into free fall, its value plummets, more
investors flee and at the end of the cycle, interest rates skyrocket. This is
exactly what happened in Asia in 1997, in Russia in 1998 and in Brazil in
1999.

Yet to curse the speculators is useless; since the 1972 collapse of
Bretton Woods that broke the international link between the dollar and gold,
the fear of the syndrome described above is the only remaining bit of
discipline in the international system. How much better, the globalists
reason, if there were to be one central bank and one fiat currency for
everyone so that then national leaderships (and the financial oligarchies they
sustain) could inflate and rob their own populations in unison.

In time, U.S. corporate profits will decline as a consequence of the
IMF-induced deflation and share prices of all but premiere multinational
corporations will follow suit. Alas, those Americans up to their necks in
credit card debt may well be the next class of debtors to be rolled, and
American farmers have been suffering for some time from the collapse of
farm commodities. In time, credit will dry up, govemment receipts will
dwindle, the national debt will skyrocket and unemployment will increase.
Eventually the government will inflate its way out of its accumulated debt.

Before concluding my remarks. I would like to recall one curious and
mostly unremarked detail from 1994, that sticks out in this sad story like a
boy's unruly cowlick. In mid-July 1994 - at the very moment dollar-based
Mexican tesobonos were being oversold to prosperous clients of Goldman
Sachs and other U.S. investment banks, which, in turn, would lead to the

290

1995 Mexican bailout and the introduction of moral hazard into the world's
financial system - Michel Camdessus told a press conference that he
intended to press for the creation of a new IMF facility to give members
resources with which to defend themselves against speculative attacks in
financial markets.

In other words, long before bailouts of entire countries became
routine Camdessus wanted a new loan program to feed the last
disciplinarians in the worid's financial system - currency speculators - so that
national govemments might become even more unaccountable to their
citizens. At the time, The Economist slammed the proposal, saying it was
"absurd and almost certainly unworkable," since Camdessus "bizarrely" was
assuming the IMF would know more about economic fundamentals than the
markets. And that assumption. The Economist noted, was the very
assumption which had been the undoing of the USSR's centrally planned
empire. But Camdessus' 1994 plan is the very one the Clinton
Administration implemented and seeks to institutionalize.

So who wags the tail of the money dog? Michel Camdessus, a
French socialist and lifetime bureaucrat, and his deputy, Stanley Fisher, who
together are quite possibly the two most incompetent people on the planet?
So it would appear.

It doesn't take a conspiracy theory to observe that the downward arc
of citizens' liberties, independence and civic competence and of American
culture generally parallels the declining value of the U.S. dollar, which has
lost 99% of its value since the founding of the Fed, and 75% of that
debasement has occurred since the last link with gold established by Bretton
Woods collapsed. From that perspective, it's really not very surprising that
at the end of the century, not quite a century after America instituted the
Federal Reserve and thereby began the process that would deliver the
power of creating unlimited debt to the political class, the White House is
occupied by a couple who share not so much a marriage as they do a
collection of felonies.

Throughout the 1990s, finance capitalism's shills have been a "new
paradigm" economy so glorious one might have thought Beatrice awaited us
each and every one at the very lip of Heaven itself. Their brassy tune
celebrated the defeat of the business cycle by globalization, productivity
gains and computer technology. Inflation was tamed, the golden horns
sounded, and we were to dwell etemally in lush fields of full employment,
low interest rates and a booming stock market. And, insiders winked,
foreign money once mugged by speculators would have nowhere else to go
but directly into Wall Street's money machine.

291

But what if - instead of Beatrice - what waits over our cxjilective
shoulder down Purgatory way is a repeat of the European currency
instabilities of the 1930s, which culminated in the most viscious and widely-
fought war in world history?

From the perspective of the many millions of her children, Mother
Russia in late 1991 was like an old woman, skirts yanked above her waist,
who had been abandoned flat on her back at a muddy crossroads, the
object of others' scorn, greed and unseemly curiosity. It is the Russian
people who kept their wits about them, helped her to her feet, dusted her off,
straightened her clothing, righted her head scarf and it is they who can
restore her dignity - not Boris Yeltsin, not Anatole Chubais, not Boris
Berezovsky nor any of the other aspirants to power. And it is the Russian
people - their abilities, efforts and dreams - which comprise the Russian
economy, not those of Vladimir Potanin or Viktor Chernomyrdin or Mikhail
Khodorkovsky or Vladimir Gusinsky. And that is where we should have
placed our bet - on the Russian people - and our stake should have been
the decency, the common sense and abilities of our own citizens realized
not through multilateral lending but through the use of tax credits for direct
investment in the Russian economy and the training of Russian workers on
6-month to one year stints at the US offices of American firms in conjunction
with a free trade treaty.

Russia is a fabled land, home to a unique and provocative thousand
year-old culture, and a country rich in the resources the worid needs whose
people had the courage and resilience to defeat this century's greatest war
machine. Hitler's invading wehrmacht. Yet, thanks to Boris Yeltsin's thirst for
power and megalomaniiacal inadequacy, Russia has become the latest
victim of American expediency and of a culturally hollow and economically
predatory globalism. Consequently, Americans, who thought their money
was helping a stricken land, have been dishonored; and the Russian people
who trusted us are now in debt twice what they were in 1991 and rightly feel
themselves betrayed.

The worst of it was that some pretty good ideas - private property,
sound money, minimal govemment, the inviolability of contract and public
accountability • that have delivered to the West's citizenry the most
prosperity and the nfK)st liberty in world history, and might have done the
sanne for the Russians, were twisted into perverse constructions and only
then exported via a Harvard-connected cabal of Clinton administration
appointees who funded - without competition - their allies at Harvard
University courtesy the public purse. Joining the US-directed effort were the
usual legions of overpaid IMF/World Bank advisers whose lending terror
continues to encircle the globe.

But where, in a land in which today niore of the people die each year
than are bom, lies the gain? History's yardstick will measure out the
answer, and I suspect it will riot suit us.

292

STATEMEaiT OF

ABMMID dm BORCH6RAVB

DIRECTOR OF THE GLOBAL ORGMtlZED CRIME PROJECT AT

THE CENTER FOR STRATEGIC AND INTERNATIONAL STUDIES

(CSIS)

BEFORE THE
HOUSE COMMITTEE ON BANKING AND FINANCIAL SERVICES

SEPTEMBER 21,1999

I am testifying today in my capacity as Director of the
Global Organized Crime Project at the Center for Strategic
and International Studies.

We published our first report on Russian Organized Crime
and its global implications for U.S. National Security on
September 29, 1997. Four days before its release. President
Yeltsin told the upper house of parliament, known as the
Federal Council, that "criminal elements have entered our
political arena and are dictating our laws with the help of
corrupt bureaucrats."

The Russian Organized Crime (ROC) Task Force is in the
process of completing a companion report updating the ROC
situation since the August 1998 crash. The report will be
released before the end of this year.

The key findings of the 1997 report:

• Left unchecked, Russia is in danger of becoming a
"criminal-syndicalist state" under the control of corrupt
government bureaucrats, politicians, businessmen and
criminals with which normal relations would be
impossible.

• Russian Organized Crime (ROC) constitutes a direct threat
to the national security interests of the United States
by fostering instability in a nuclear-armed major power.

• Equally ominous is the challenge to national security and
law enforcement posed by the transnational operations and
alliances of ROC groups. According to the FBI, ROC groups
now have relations with their criminal counterparts in 50
countries, up from 29 countries just two years ago.
Overall, some 200 large, sophisticated ROC groups are now
operating worldwide.

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• ROC groups hold the uniquely dangerous opportunity to
procure and traffic nuclear materials. Russia's former
Minister of Defense, Igor Rodionov, has indicated that,
without immediate payment of back wages, "the Defense
Ministry cannot guarantee that some undesirable and
uncontrollable processes will not develop in the armed
forces . "

• The criminal environment in Russia is often compared with
the "robber baron" era of 19'*^ century U.S. history. This
is a false analogy. ROC groups stash untold billions
abroad and seldom reinvest their ill-gotten gains to
bolster the domestic economy through the building of
modern infrastructure.

• The corruption that pervades every level of Russia's
bureaucracy is the major impediment to combating OC in
Russia .

• The processes of democratization and economic
liberalization in Russia are being seriously undermined
by ROC.

• The erosion of the government by ROC is imperiling
cooperative efforts in the areas of peacekeeping, non-
proliferation and economic restructuring.

• ROC has extended its tentacles throughout Russia's
economy, which confers an aura of legitimacy to myriad
illicit activities, including the manipulation of
Russia's banking system and financial markets.

• In the absence of effective courts, a working judicial
system, and consistent enforcement of established
commercial and contract law, criminal elements have
become de facto adjudicators. Protection rackets in
effect have usurped the government's traditional legal
functions and safeguards.

• Efforts within Russia to combat OC - by the government,
the media, and others - have been weak, often sidetracked
because of fear and bribery, and frequently derailed by
assassinations .

The foreword to this report, co-signed by Judge William H.
Webster, the former FBI Director and Director of Central
Intelligence, and by me, concluded that, "If the forces of
organized crime are not stymied, Russia will complete' its
devolution into a criminal-syndicalist state. The United
States then would be faced with an agonizing reappraisal of
its diplomatic and commercial relations with Russia."

294

What was a threat then is a reality today. Russia is a
criminally-focused state from top to bottom.

The CSIS report on ROC was quickly endorsed by FBI Director
Louis Freeh but dismissed by high-ranking Administration
officials even though the intelligence community was well
aware of the facts.

The genesis of the Global Organized Crime Project at CSIS
goes back to 1994 when a wealthy friend of mine with
extensive Russian contacts at the highest level received a
telephone call from Moscow asking him to take care of five
Russians on their way to New York. It soon became apparent
that the Russian visitors wanted an introduction to a Swiss
banker in Nassau in the Bahamas where my friend kept a
house.

A few days later, the Swiss banker called my friend and
asked whether he realized what the five Russians wanted. "I
suppose they wanted to open a bank account," he answered.
"Yes, but do you realize for how much?" asked the banker.
My friend guessed a few million dollars. It was $2.5
billion, which the Russians wanted, deposited in several
secrecy jurisdictions in untraceable accounts. After
checking with Zurich headquarters, the Swiss bank turned
down the business.

Three weeks later, I was on vacation in the south of France
and found myself seated at a dinner next to a Swiss banker.
After recounting the anecdote, he said, "What a
coincidence. I had a Russian "walk-in" two days ago who had
no introduction and wanted to deposit $400 million, also in
untraceable accounts in offshore tax havens.

1994 was also the year the late Claire Sterling, a much-
honored investigative reporter, published a book titled
^^ Thieves World," which documented chapter and verse on the
global tentacles of ROC. Ms. Sterling had traveled the
world, including several trips to Russia, to investigate
the connections between Russian intelligence and security
agencies, organized crime syndicates, and the so-called
oligarchs who plundered Russia systematically under the
guise of privatization schemes.

There was no doubt in Ms. Sterling's mind that this lethal
mix enjoyed the protection of the powers that be in the
Kremlin.

295

I also traveled extensively on behalf of CSIS' Global
Organized Crime Project without using any of Ms. Sterling's
contacts. We deliberately avoided duplication. From Buenos
Aires to Berlin, from London to Lugano, from Bogota to
Beirut, the pattern was identical - countless billions of
dollars siphoned out of Russia to be laundered before
buying commercial properties or being used to pay cash for
lavish private residences in Europe's capitals and in the
Mediterranean's luxury resorts, as well as to purchase
yachts and private planes. I discovered scores of examples
of properties ranging in price from $5 million to $75
million paid for by Russians in cash.

Little known outside the intelligence community is the fact
that the clandestine stripping of Russia's assets began as
early as 1985 and 1986 when key members of the Soviet
Communist Party's Central Committee (International
Department) concluded that President Gorbachev's glasnost
and perestroika would lead to the collapse of Communism.
This is when these Central Committee members turned to the
KGB for assistance in moving abroad precious metals and
stones and liquid assets. The KGB was the only organization
familiar with western conduits willing to handle this
clandestine traffic.

When the Soviet empire began to implode in 1989, many of
these Communist apparatchiks and their KGB associates
became instant businessmen.

Russia's much touted instant market economics and
democratic politics were little more than a sham.
Prosecutor-General Yuri Skuratov ridiculed President
Yeltsin's seven major crackdowns on organized crime and
corruption in 1997 as a Potemkin village. "It is a
charade," Mr. Skuratov said in an interview, "there is
neither the will at the top nor the resources to do much
about it."

Mr. Skuratov was framed in a sex scandal by the security
service earlier this year and then suspended by Mr. Yeltsin
for poking around the Kremlin's labyrinthine financial
structure. But the Russian Parliament twice declined to
endorse the suspension and Mr. Skuratov continues to speak
out in interviews. He now says that $3.9 billion of the
IMF's $4.8 billion loan last year never reached Russia but

296

was sold by the Russian Central Bank directly to 18
commercial banks controlled by the oligarchs.

The cult of secrecy in Russia's Byzantine politics thwarts
all attempts at transparency. The rule of law is non-
existent. Moscow's chief of police said publicly that 90%
of his officers were on the take. Security services are
part of the problem, rather than part of the solution. They
run their own kryshas, or "roofs" of protection, or do so
in collusion with criminal gangs. Key sectors of Russian
industry are under the sway of organized crime,
particularly those that earn hard currency, such as mining,
petroleum, natural gas and arms manufacturing.

Former First Deputy Prime Minister and former Interior
Minister Anatoly Kulikov recently told our ROC Task Force
at CSIS that about half of the Russian economy is
controlled by "shadow systems" that run illegal operations.
Mr. Kulikov estimates the amount of capital flight since
1992 at close to $300 billion. Some 55 offshore secrecy
jurisdictions from Vanuatu in the Pacific to island nations
in the Caribbean and a dozen countries from Bahrain to the
Bahamas were eager to take in Russia's dirty laundry.

In 1995 and 1996, about $1 billion a month came into Cyprus
from Russia and another $1 billion went in and out of
Israel. The money laundering activities uncovered recently
by the FBI at the Bank of New York (BONY) are not unusual.
They have been duplicated by scores of banks the world
over. Wealthy individuals have parked an estimated $8
trillion in offshore tax shelters that guarantee secrecy.
There are also approximately one million corporations
anonymously chartered in these secrecy jurisdictions that
sell naturalization and a new passport for $50,000
(Dominica charges $75,000, including a spouse and two
children) .

These facilities make it easy for Russia's 200 plus
organized crime groups to operate in 58 countries, up from
50 two years ago, according to the FBI.

Corruption in the Russian military, where everything and
anything is for sale, has worsened substantially since the
August 17, 1998 financial meltdown. Apart from elite
Special Forces units, it is a beggar's army. Last winter,
soldiers were told to fend for themselves by scrounging for

297

food in the countryside. These dismal conditions in the
military increase the likelihood of criminal diversion of
theft of nuclear weapons and/or fissile materials, given
that Russia still has some 20,000 nuclear weapons.

The failure of the Russian state is made clear in a just
published book titled, ^^Money Unmade: Barter and the Fate
of Russian Capitalism," by David M. Woodruff of MIT. If
anything, Mr. Woodruff has underestimated the part that
greed and corruption played in the process of national
disintegration. Russians have been bitter about how what
they perceive as American capitalism made them poor (40% of
the population is now living below the poverty line of $38
a month); now they are now bitter about being weak. This
plays into the hands of anti-American ultra nationalists.

The totalitarian temptation has existed in Russia for the
past 1,000 years. It is now rearing its ugly head again
after a decade-long taste of gangster capitalism.

Last week, Secretary of State Madeleine K. Albright called
on President Yeltsin to make fighting corruption a top
priority. The Administration, like Inspector Renaud in the
movie classic Casajbianca, is shocked that there is gambling
going on in the Kremlin. "The problem is real and must be
taken seriously," said Mrs. Albright. The problem has been
glaringly obvious since 1991 and repeated warnings that it
was undermining U.S. foreign policy objectives as well as
diverting U.S. financial assistance and IMF loans were
repeatedly dismissed as exaggerations.

It is hardly surprising, therefore, that Russian
nationalists have convinced themselves that the U.S., not
content with its Cold War victory, was also bent on
wrecking the Russian economy.

The Administration has invariably invoked the need to give
priority to strategic arms control and economic reforms,
rejecting the notion that the emergence of a criminal state
was in direct contradiction with U.S. objectives.

Gen. Boris Gromov, chairman of the subcommittee on Arms
Control and International Security of the Duma's Committee
on International Affairs, said this week that the
lamentable state of the Russian military was "a direct
result of western indifference" to the way the Kremlin
robbed the armed forces of the resources needed to maintain

298

cohesion. "Yeltsin's socalled reforms," Gen. Gromov said,
"have brought nothing to the majority of the Russian
population but disappointment."

Saul Bellow once said that a great deal of intelligence can
be invested in ignorance when the need for illusion runs
deep. The Administration's need for illusion in its Russian
policies has been an evergreen commodity since the collapse
of the Soviet Union.

299

Center for Stratebic and Internationai. Studies

Global Organized Crime Project

Project Chair: William H. Webster

Project Director: Arnaud de Borchgrave

Project Cooirectorb: Robert H. Kupperman & Erik R. Peterson

Tabk Force Chair: Gerard P. Burke

Task Force Director: Frank J. Cilluffo

Task Force Research Assistant: Robert J. Johnston

C5ZS

300

Participants

Global Organized Crime
Steering Committee Memt}ership

Chair

Wiliiam H. Webster

Former Director, Central Intelligence Agency

Federal Bureau of Investigation

Director

Amaud de Borchgrave
Senior Adviser, CSIS

Project Assistant Director

Frank J. CUluffo
Senior Analyst, CSIS

Members

Duane Andrews

Former Assistant Secretary of

Defense

(Director d I)

Robert Bonner
Former Administrator
Drug Enforcement Agency

William Cohen

U.S. Senator (Ret.)

(currently serving as Secretary of

Defense)

Robert Gates

Former Director

Central Intelligence Agency

Carol Hallett
Former Commissioner
U.S. Customs Service

Admiral James R. Hogg
U.S. Navy (Ret.)

Fred C. Ikl^

Former Undersecretary of Defense

Stuart Knight

Director, U.S. Secret Service (Ret.)

Patrick Leahy
U.S. Senator

William McCoUum
U.S. Representative

301

Steering Committee Members, continued

General Edward C. Meyer
US. Army (Ret.)

SamNunn

U.S. Senator (Ret.)

Oliver Revell

Former Associate Deputy Director

Federal Bureau of Investigation

William Roth
U.S. Senator

William Sessions
Former Director
Federal Bureau of Investigation

Admiral William D. Smith
U.S. Navy (Ret.)

Lieutenant General Edward Soyster

Former Director

Defense Intelligence Agency

J. Chips Stewart

Booz, Allen and Hamilton

Richard Thomburgh
Former US. Attorney General

R. James Woolsey

Former Director

Central Intelligence Agency

William Zeiner
Director, Criminal Justice
MITRE Corp.

Global Organized Crime

Russian Organized Crime Tasic Force

Project Director

Amaud de Borchgrave
CSIS

Task Force Chair

Gerard Burke
The Parvus Group

Task Force Director

Frank J. CiUuffo
CSIS

Task Force Research Assistant

Robert J. Johnston
CSIS

Task Force Members

302

Michael Bopp

Permanent Senate Subcommittee

on Investigations

James Brusstar

National Defense University

Jack Dziak
Dziak Group, Inc.

John Hurley

U.S. Customs Service

Eric Lebson

USAsia Commercial Development

Corp.

Nancy Lubin

JNA Associates, Inc.

John MacGaffin

Central Intelligence Agency (Ret.)

John Martin
Department of Justice

Stephen McAlexander
Federal Bureau of Investigation

James Moody

Federal Bureau of Investigation (Ret.)

Rick Mosquera

Federal Bureau of Investigation

Jack Piatt

Hamilton Trading Group

Russell Ross
Department of State

John Sopko
Department of Commerce

Graham TurbiviUe

Foreign Military Studies Office

Robert B. Wade
America Online

303

Summary

of Recommendations

The Russian Organized Crime Task Force recommends that the following actions
be taken:

n ROC should receive public recognition from the president of the United
States as a national security threat.

0 The development of a free market in Russia founded on the rule of law
should be recognized as the only long-term policy solution for ROC and
must be central to all U.S. policy decisions.

O In order to mitigate instances of corruption within the Russian goverrunent,
U.S. policies and actions should shift from support for political personali-
ties to support for segments of the Russian government that are working to
usher in the rule of law. Strengthening the rule of law will foster the emer-
gence of a viable market economy in Russia, free from the coercion and
extortion activities of ROC groups.

D Russia must work toward the creation of a strong and impartial judiciary to
implement and enforce a fair body of civil, criminal, and contract law co
regain control over the adjudication role currently played by ROC groups.

□ U.S. suppxjrt for reform should reinforce training and exchanges such as
those currently in place, funded through the National Endowment for
Democracy, the Department of Justice, and the Agency for International
Development. These programs, as well as similar efforts within the private
sector and the academic community, should be continued and expanded
through appropriate funding by Congress.

□ A similar effort should be undertaken in the private sector to support legiti-
mate regulation of Russian industry, business, and trade. Specifically, the
Russian government should be assisted in establishing uniform business
operation regulations, professional standards for certain industries, and
requirements for the issuance and regular renewal of business licenses and
other permits.

□ Stringent requirements to ensure transparency in Russia's use of foreign
aid. as well as multilateral loans and export fmancing, should be imple-
mented and enforced to insulate the funds from OC and to ensure that the

304

funds reach their intended destinations.

I The United States should initiate a discussion at the level of the Summit of
the Eight of an investment treaty to deny export credits to Western firms
doing business with OC-controlled firms in Russia.

Because ROC activity requires a response from multiple U.S. government
agencies with multiple roles and missions, decisions over whether prosecu-
tion or foreign policy objectives should take precedence should be made on
a case-by-case basis.

Because businesspersons often become the targets of ROC activity, a
greater effort should be made to provide them with relevant information.
The Foreign Commercial Service of Department of Commerce in conjunc-
tion with the Overseas Security Advisory Council of the Department of
State should work with other U.S. agencies and the Russian government to
advise and support businesspersons, providing them especially with
alternatives to paying extortion to criminal elements in Russia.

A shared public database on ROC, including a collation of declassified and
open-source materials, also should be created to assist investors from the
United States and other countries. The database could be supplemented by a
classified database for use by U.S. government agencies only. Considering
the transnational breadth of ROC activity, a database supporting intelli-
gence-sharing among various groups like the P-8, Europol, and the "six
nation group"* addressing the transnational aspects of the ROC threat is also
necessary.

The U.S. intelligence community must be directed to fill the immense intel-
ligence gaps on ROC. Their elements should use well-tested operational
know-how and tradecraft to recruit informants inside ROC or induce defec-
tions from the various ranks of people who can provide hard, inside knowl-
edge of how the various ROC elements operate, do not operate, cooperate,
and do not cooperate.

The interpenetration of Russian officialdom, businesses, and criminal orga-
nizations make it more imperative than ever that U.S. law enforcement and
intelligence agencies fully cooperate and share the fruits of their respective
disciplines to serve U.S. policy, security, and commercial interests more
capably.

Close U.S. government identification with corrupt elements of Russia's
political establishment risks serious popular backlash inside Russia. The
United States must avoid the appearance of unqualified support for what is
routinely seen as a kleptocratic establishment. Such linkage reinforces a

4. The "six nation group" includes the United States, Canada, the United Kingdom,
Gennany. Italy, and Russia. -

305

growing pupuiar pcrccpuon inai aemocrauc political and market economic
systems are merely code words for rapacious criminality. The United States
should address this perception by increasing its public diplomacy
discussion of the causes of and cures for ROC.

The U.S. government must support not only senior-level reformers in the
Russian government, but reformers outside government as well. The United
States should not remain silent in the face of official hostility to respected
human rights leaders like Sergey Kovalev of the Sakharov Foundation or
fabricated charges against the environmentalist Captain Nikitin.

306

STATEMENT OF WeHHm^^^^TALMER, PRESIDENT OF CACHET
INTERNATIONAL, INC. ON THE INFILTRATION OF THE WESTERN FINANCIAL
SYSTEM BY ELEMENTS OF RUSSIAN ORGANIZED CRIME BEFORE THE
HOUSE COMMITTEE ON BANKING AND FINANCL\L SERVICES ON
SEPTEMBER 21, 1999

STATEMENT BY RICHARD L. PALMER

Mr. Chairman, and other honored members of the committee, I welcome the opportunity
to address this committee on a subject that presents serious threats to Western nations as
well as involves the use of US taxpayers' ftrnds to continue the looting of Russia and its
former republics. I feel reasonably well qualified to speak on the subject as a result of my
former government service, personal research and professional duties. I have devoted
much of my time, energy, and money to Central and Eastern Europe and the former
Soviet Union in the last seven years, because I believed that the collapse of the Soviet
system was a historic, revolutionary event and that the outcome would shape the course
of history. Unfortunately, we have thus far squandered our opportunity to help shape the
outcome of this event into positive directions that benefit the majority of the people in
this region rather than just a few persons at the top. We have little time left to avoid the
permanent denigration of the terra "democracy" in this region and the return of
totalitarian regimes which may not necessarily be Communist. This would lead to
instability in a region that spans 10 time zones and still remains the second ranking
nuclear power.

CREDENTIALS:

I believe that I should explain my background regarding the technical topics that I am
addressing today. I served five and one-half years in the US Army, including decorated
service as an infantry officer in Viet Nam and then as an Army Intelligence Officer in
Europe. I then served 20 years with the CIA in the Operations Directorate, of which over
1 8 years of this time was spent overseas, much of the time in Eiu'ope. During my CIA
service, I had nine years of experience in detecting international money laundering and
criminal activity. I spent 11 years as Chief of Base and Chief of Station in four different
locations. I began to study Russian Organized Crime in 1989, when the Berlin Wall
came down, and I focused on Russian Organized Crime and corruption in my final
assignment as a Chief of Station in the Former Soviet Union (FSU) fi-om 1992 until 1994.
I then worked for three years in the FSU as a business and security consultant, as well as
working as the director of training within one Russian based bank. As a result, I have
experience based upon direct contact with FSU security and police services, as well as
members of Russian banking, business. Organized Crime and corrupt officials. I then
worked in the US as a senior analyst with an international private investigation firm,
where I specialized in the investigation of financial fi-auds and international economic
crimes. I am currently the owner of the investigative firm Cachet International, Inc.,
which has offices in Virginia and Washington, DC. This firm specializes in domestic and

307

international asset recovery, business intelligence and due diligence investigations -
especially in the FSU. I organized and directed a seminar in Washington DC on
"Recovering Assets In and From Russia" in October 1998. In addition to U.S. clients that
include some Fortune 100 firms, I now also represent several Russian and Former Soviet
Union (FSU) firms who seek to locate assets of debtor firms in the US as well as off-
shore banking locations.

In addition, I am recognized in US Federal Court as an expert witness on Organized
Crime, Official Corruption and the Banking System in Russia and the FSU In 1997 I
wrote a monograph and an article in the journal Trends in Organized Crime on the
looting of the Soviet state which is currently being developed into a book for publication
in early 2000. I also has appeared on television network nescasts regarding Russian
Organized Crime and the Russian business environment, and I am an advisor to two
major US TV networks and several newspapers and news magazines. I have presented
lectures on the background and history of Russian Organized Crime (ROC) at the
University of New Jersey, Tufts University in Boston and the California Attorney
General's International Conference on Russian Organized Crime. I am a consultant to
several US police agencies concerning Russian Organized Crime.

I plan to provide examples of the infiltration of Russian Organized Crime into the
Western banking system based upon my personal and professional research. In
compliance with the laws for Private Investigators in Virginia as well as with my
contractual obligations, I will not identify any of my clients.

KEY POINTS:

• Several powerful organized criminal groups exercise control over national economy.

• The corrupt government and law enforcement agencies serve as tools for Organized
Crime groups; and, the Chiefs of state of those countries are unable and unwilling to
fight Organized Crime and corruption.

• There is still a severe shortage of democratic institutions and mechanisms, paralysis
of the legal system.

• The market mechanisms are suppressed by Organized Crime.

• As is illustrated by the figures shown above, most informed observers agree that the
criminal Mafiya groups account for only about 10 to 15 % of the makeup of
Organized Crime, with Russian officials, former officials and their "newly created
entrepreneurs" accounting for the other 85 to 90 %. In other words, the criminal
Mafiya groups with ostentatious cars, bodyguards and flashy attire are only the most
visible portion of Russian Organized Crime (ROC) and are possibly much less
dangerous than the more hidden "official" members of Organized Crime - whom the
West consistently attempts not to see.

OVERVIEW OF THE CURRENT PROBLEM:

308

In essence, most complicated financial crimes are basically very simple. (The Wall Street
Journal of September 5, 1999 "A Scheme for Ducking Taxes May Be a Key In Russia
Money Probe' presents an excellent, detailed look at the persons and systems involved.)
For example: the background details of the current investigation regarding the alleged
money laundering through the Bank of New York (BONY). Two apparent non-banking
experts set up a system to simply move large amounts of money from Russia to the US
and frequently on to third countries. It seems rather clear that - at a minimum - the BONY
and several other Western banks skirted the legal requirements enlisting their active
assistance in preventing money laundering. One crucial legal prerequisite to prove money
laundering is to demonstrate that the provenance of the money being transferred or
deposited was illegal. It seems that the BONY case meets this criterion and this is why:

From published accounts, it appears that Benex and similar "money transfer" firms
utilized contacts (or in this case relatives) in the BONY to assist in keeping this "money
transfer" operation from being "discovered". Less charitable accounts, such as of the
New York Post article of August 28, 1999 "TAPE: BANK OF N.Y. BIGS KNEW OF
RUSSIAN SCAM" argue that Ms. Natasha Gurfinkel Kagalovsky actually took
instructions from a Vice-President of Inkombank regarding the backdating of documents
to avoid attracting the attention of U.S. Treasury Agents (FinCen). If that account is
proven to be true, it would indicate that even a Vice-President of Inkombank, a
"priviledged" Russian bank, is so familiar with the criteria used by FinCen that he can
easily "adjust" transactions so as not to alert US law enforcement to any irregularities.
While no one can be certain about this accusation until it is proven in court, I would like
to note that, while examining eleven cases of US and other Western firms being
defrauded by Russian Organized Crime (ROC) elements, I was able to identify nine cases
where USAVestem executives had clearly been suborned by ROC groups to assist in
looting their employers. (It is also well known that Ms. Natasha Gurfinkel Kagalovsky is
the wife of Mr. Konstantin Kagalovsky, a member of the board of directors of Menatep,
another "priviledged" Russian Bank, and former Russian representative to the IMF.)

Following the financial crisis in Russia in August 1998, both Inkombank and Menatep
Bank were declared bankrupt and their assets were supposed to have been frozen. I
represented a few of the more than two dozen Western firms that sought to trace the
fransfer of funds by the supposedly insolvent Inkombank and Menatep Bank to Western
accounts where they could be legally attached. This is the normal part of the legal
restitution of funds that Western firms lost in investments or transactions in Russia. These
fiinds were actually easier to track outside of the US. It now appears that this is because
these Russian banks were using the size, speed and efficiency of the US banking system
to avoid detection. In other words, the Mafyia infilfrated Russian banks used the US
banking system to prevent US and other Western businesses from obtaining legal
restitution of funds lost in Russia.

The problem of obtaining legal restitution funds from Russian banks and companies has
three other components:

309

First of all, Russia is not governed by the "rule of law" but functions under the rule of
understandings. Rather, if functions under the "rule of understandings". The Russian
legal system was given a major overhaul in 1964, at a time when the then Soviet
government did not acknowledge that ROC existed, commercial banks and firms did not
exist either, and the Communist Party had complete control of the courts, law
enforcement system and all lawyers. The fact that Russian President Yeltsin recently
vetoed a second attempt to pass a toothless law on money laundering shows that this is
not a priority for the Russian government and that current economic interests have the
final word in economic policy, despite constant assurances to the US and EU to the
contrary. Therefore, the argument is normally made "the theft of these funds was not
illegal in Russia." According to this, it is obvious that hardly any economic crimes - by
world standards - are illegal in Russia - and those few crimes that are recognized are
negotiable.

Secondly, the court system and law enforcement authorities are not independent and
suffer from high levels of corruption. Until recently, some Russian newspj^)ers published
the current rates of bribes for specific acts to help subscribers avoid overpaying. Perhaps
the case of several Russian officials arrested in connection with the Solntsevo Mafiya
illustrate best the institutionalization of official corruption. Colonel Yevgeniy Zhigarev, a
Higher Police School professor, testified that bribes from the Solntsevo crime family
were distributed as follows: the prison counselor passed orders and "treasury money" to
friends in law enforcement; the investigator collected information on the pertinent
criminal cases, devised a plan to derail them, and by deception obtained the materials for
examination and falsification. The professor found middlemen to pass bribes to
investigators and judges. There was a precise fee structure: for changing the measure to
secure the appearance of the accused, for dismissing the case, for lessening the sentence.
Freedom was charged at $25,000 per person.

Another case illustrates the role of the Russian courts concerning a major US fast food
firm which discovered its Russian partner was a member of ROC and was defrauding the
US firm. After months of litigation, the US firm obtained a $ 1.2 million judgment by the
International Arbitration Institute in Stockholm which was awarded to him in January
1997. Subsequently, the city court in St. Petersburg granted an order of enforcement to
this foreign arbitration award. This was said to be the first such enforcement order issued
in post-Soviet Russia. This decision by the International Arbitration Institute in
Stockholm was even confinned by the Russian Supreme Court in April 1998. However,
despite of having a decision from the highest court in Russia, the US firm has not yet
been able to enforce this decision and recover a dime because the Russian courts and law
enforcement authorities have been thus far successful at ignoring the decision by the
highest court in the country.

Thirdly, a fact that has tfie most detrimental effect on US businesspersons is the absence
of a US-Russian Investment treaty. Despite the fact that the Gore-Chernomyrdin
Commission allegedly labored for years to encourage investment by US businesses and
resolve legal issues, this bilateral treaty has never been passed. While it is admittedly
difficult to persuade the Russian Duma to pass any laws, it is striking that the European

310

Union (EU) made the passage of a EU-Russian Investment Treaty for the protection of
EU investors a requirement for large scale aid or any encouragement of EU investment.
As a result, EU investors can sue for damages in European Arbitration Courts and get
binding orders for restitution. By contrast, US investors are left with either using the
totally ineffective Russian court system or they can hope that they included a clause in
their contracts that allowed them to file suit in the international Arbitration Courts, such
as in Stockholm or Paris. It is no exaggeration to say that new Russian Arbitration Court
in Moscow is not very effective in protecting the interest of foreigners.

Against this background, it is easy to demonstrate that tax evasion, money laimdering, to
name a few, are not illegal in Russia. As a result, they can not be pursued by Western law
enforcement officials. Therefore, Western bankers ever chasing after fat profits, see no
reason to reject this lucrative business. On the other hand, let us look at the matter of tax
evasion in Russia. The primary reason for the IMF loans over the last few years has been
the shortage of taxes collected by the Russian government. Thus, every year the IMF
needed to provide billions of dollars to make up for uncollected taxes. The tax funds that
were diverted - ended up in the hands of criminals and corrupt officials. This means that
Western and US taxpayers in particular, are footing the bill for tax funds that remained
unpaid by Russian businessmen and a large number of Russian state enterprises. Sadly,
this cycle shows no signs of slowing. It is also quite safe to assume that these IMF loans
will never be repaid.

I participated in a conference with the Russian desk officer and other Russia experts from
the IMF in June of 1998, at which the IMF representative tried to vehemently convince
the audience that $ 4.8 additional millions in IMF funds would surely turn the precarious
economic situation aroimd in Russia, primarily because "the Russians were going to
become far more effective in collecting taxes." The IMF key speaker and his peers
conveniently ignored any warnings about the widespread top-to-bottom corruption in
Russia and argued that the financial fiiture of Russia was bright. Only two months later,
the economic crisis of August 1998 saw the devaluation of the Russian ruble and the near
collapse of the entire economic system. Apparently, IMF predictions do not seem to be
based upon facts that are readily available to even non-Russian experts.

WHAT HAPPENED TO THE $ 4.8 BILLION IMF TRANSFER IN
JULY-AUGUST 1998?

Worse yet, there is the matter of what happened to the $ 4.8 million in additional IMF
funds that were delivered to Russian accounts on July 23, 1998. Claims that there is no
evidence of the theft of these funds are grossly misleading.

First, as already mentioned, there are very few laws on the books in Russia regarding
financial fraud, conflict of interest, bribery and official malfeasance. "Criminals" control
the government and refiise to pass any meaningfiil set of criminal laws outlawing money
laundering and punishing corruption.

311

Secondly, the Price Waterhouse audit of the Central Bank off-shore firm FIMACO, was
based solely on the documents provided by the Russian Central Bank. That is the same
bank that now admits that its GKO bonds (short time saving bonds) were "nothing but a
pyramid scheme". It is also the same bank that originally lied about the funds passing
through FIMACO.

Third, the IMF has frequently admitted that they lacked the mechanisms to monitor their
funds once they have been delivered to the Russian government, respectively the Central
Bank. Thus, the IMF is correct in stating that they have no evidence of stolen or misused
fund, if only because the Russians did not deliver them evidence to the contrary evidence
on a platter. In addition, the diversion of funds to a select few probably does not even
violate the almost non-existen Russian laws governing financial fi^ud.

The world knows that the IMF delivered a payment of $ 4.8 billion to the Russian Central
Bank on July 23, 1998. This was part of a $ 22.5 billion bailout package aimed at
restoring confidence in the Russian. This has been a continuing IMF and US priority
since the announcement of massive infusions of IMF capital just prior to Russian
President Boris Yeltsin's re-election in 1996. What happened to these fbnds has been the
subject of great debate. According to a variety of well informed sources in the US and
Russia, it now appears that about $ 471 million or slightly less than 10 per cent of these
funds were actually used to support the Russian ruble. Some 90 % or $ 4.4 billion of
these $ 4.8 billion was deposited into a Russian Central Bank account on July 23, 1998.
Between July 23 and August 17, 1998 (when the Russian ruble was devalued and Russian
economy collapsed), $ 4.4 billion of these funds were sold from that account directly to
Russian and foreign banks. This was extremely unusual in that it bypassed the trading
session at the Moscow Interbank Currency Exchange (MICEX), which would have given
all of the banks, trading houses and financial institutions an equal opportunity to purchase
these funds. Only $ 471 million, or less than 10 per cent of these funds were used to
support the ruble exchange rate on the MICEX. Another $ 100 million or less than 2 per
cent went for intervention on other currency exchanges.

The bulk of the IMF money was used by eighteen large Russian and foreign banks to
convert their GKO's (bonds that were used as debt instruments) into dollars just days
before the Russian government defaulted on them. These bonds had yielded as much as
200 percent per armum in interest. Any educated investor would have taken this as
indicator that the rate was unlikely to last over a long period of time and that only the
extremely high risk of this investment tools could justify these unusually high yields.
Several Western banks and investors lost amounts up to $ 2 billion dollars each when the
Russian government defaulted. However, the 18 banks that did receive the IMF funds
and could cash in their GKO's just days in advance of the Russian government's default
included the largest and most powerful banks in Russia, also known as the "privileged"
group because of their supporters in high places in the Russian government. More details
on the make-up and background of these banks is contained later in this written
testimony.

312

What my sources tell me as the most striking fact about these transactions is that the
Russian Central Bank account in which the $ 4.8 billion in IMF funds were deposited and
were distributed was their account in the Bank of New York. These funds were then
allegedly distributed to correspondent accounts held by these 18 Russian and foreign
banks within the Bank of New York. The Bank of New York then helped these
"privileged" banks to transfer these funds out to other accounts. Only the most gullible
would argue that these 18 banks did not receive special treatment and illegal advance
warning of the upcoming default on the GKO's.

The fact that the Russian Central Bank allegedly lef\ these $ 4.8 billion in the Bank of
New York over at least 25 days means that the US bank made several million dollars in .
Profits, not just on transfer fees, but also on "overnight interest". These accounts have
now been further verified by the written statements and documents provided by Russian
prosecutor Skiu-atov. (NOTE: He is still officially the prosecutor although Russian
government guards will not allow him to enter his office since he accused President
Yeltsin and his family of corruption).

This provides the US Treasury and Justice Departments with the opportunity to prove or
disprove these allegation regarding the "misuse" of these IMF funds. As these
transactions took place in the Bank of New York, which is under US jurisdiction, a
review of these accounts would seem to provide a list of the "privileged" Russian and
foreign banks. This may even include US banks which could be further investigated as
to their roles in this matter. If, once again, the US government fails to investigate this
matter, it will be following the policy that it has established over the last seven years and
which is encouraging and facilitating the continued growth of Organized Crime, looting
of the Russian state and at the cost and to the detriment of the impoverished Russian
people.

THE ROOTS OF THE PROBLEM:

Corruption in Russia is as old as recorded history. It was certainly a major cause of the
unpopularity of the last Czars and contributed to the eventual revolution. Even worse,
corruption did not disappear with the advent of the Communist system but became even
more entrenched as the Communist Party expanded the bureaucratic system throughout
the country to seek total control of the people, create official jobs for Party members and
increase its patronage system. While Western, capitalist systems continued their tradition
of inheriting land, personal property and money from elders to their relatives, the
Communist system replaced land, personsil property and money with influence,
coimections, and opportunities for Party membership that included perquisites. With the
dissolution of the Communist Party as the only legitimate political structure in 1990
these Soviet nomenklatura foresaw a threat to their previously privileged lifestyles.

To support this lifestyle, a vast underground economy of ofT-the-book factories, food co-
ops, and construction companies began to floiuish in the mid- 1 970' s, in collusion with
party bosses. By the late 1980's, up to 40 percent of the nation's foodstufiis passed
through the black market. By the end of the Brezhnev period, the underground sector of

313

the economy accounted for as much as 50 percent of the personal income of Soviet
workers. But the nomenklatura and black-marketeers profited the most: they lived like
feudal lords in ornate hilltop sanatoriums and summer villas, shopped in special stores
bulging with hard to get foreign made consumer goods, and traveled abroad - considered
to be the most coveted privilege in the Soviet Union.

Organized Crime in Russia is an "oligarchy" formed by the former officials of the Soviet
state and the Russian Mafiya. What makes this group unique is not only the extent of
their power, influence and wealth in Russia, its republics and increasingly internationally,
but also that these are two distinctly different groups, operating sometimes
independently, sometimes in common. The best estimate is that the criminal Russian
Mafiya only makes up 10 to 15 percent of Russian Organized Crime, while the remaining
85 to 90 percent are current or former officials of the Soviet party-state. These officials
continue to manage the Russian government, its industrial complex, the new
"commercial" banks, and most of the new businesses. However, they are still part of
Organized Crime. The current definition at Interpol's Organized Crime unit is: "Any
group having a corporate structure whose primary objective is to obtain money
through illegal activities, often surviving on fear and corruption." That not only
describes Russia's business, banking and industrial sector, it also describes and involves
its government.

Many Russian citizens feel that their country has been stolen fi-om them. The small group
of men who have corruptly seized the assets of the state flaunt their wealth as
thoughtlessly as any czar. These men are the Oligarchs. They have robbed the
government of its administrative skeleton - the tax revenues to maintain state services
and infi-astructure. The taxes fi-om natural resources - especially gold, minerals,
diamonds, and timber - once provided 75 percent of state revenues under the Soviet
system. Now these resources are controlled by the tycoons, and they use their political
connections to pay no taxes, sending much of their illicit profits out of the country: More
than $300 billion has gone this way, according to Interpol and the Russian Interior
Ministry.

Perfiaps the best example of the close pre- 1990 relationship between the various members
of the oligarchy was given by retired police general Aleksandr Gurov,. "He noted that at
the beginning of 1970's, in Georgia, a rayon party committee secretary would summon
for a conference the UVD [Internal Affairs Administration] chief, the UKGB (KGB
Administration) chief, and the local crime boss, and say: How could you permit such a
rise in crime? Addressing this first and foremost to the crime boss, who would
immediately start 'taking steps to reduce the crime rate' in this particular rayon. And this
was happening not only in Georgia."' Gurov also stated that "I've estimated that 80
percent of the chiefs of small criminal groups today are former deputy directors, former
administrators of factories and enterprises."^

Plans for the looting of then Soviet State were first discussed in 1984 by specific sectors
of the Soviet Politburo, the top officials of the Commimist govonment However, one

314

must keep in mind that this massive effort included many of the highest officials of the
Soviet government, several elements of the KGB (now FSB), old and new bankers,
industrialists and, of course, traditional criminals, such as the Russian Mafiya - which
already had experience and significant personnel stationed throughout the West. Their
primary goal was to ensure their financial and political status in the future, by taking
control of the vast funds and resources of the Party and converting them into personal
assets that could not be tracked or confiscated by future governments.

By late 1986, the informal planning committee had been given the services of two KGB
First Chief Directorate (FCD - foreign espionage) officers who were experienced in
moving funds overseas both for the Party Central Committee, but also for other
operational purposes. No written records existed of their meetings or proceedings, except
for one copy to the Chairman of the KGB and one copy to the Central Committee official
responsible for the Administrative Organs of the Politburo: Viktor Chebrikov. The
Chairman of this planning group was CC Treasurer Nikolai Kruchina. This "planning
group" determined that while the local KGB residencies via the diplomatic pouch system
and simply smuggling suitcases of money over borders could be used initially, this
temporary system could not be used in the long term due to the fi-equency and amounts of
the funds that would need to be transferred, as well as the need to reduce the number of
knowledgeable persons to an absolute minimum. Further, the existing system utilized the
Soviet bureaucracy which required too many written records. Further, it was also
decided that the overt ties to the KGB and other official agencies had to be minimized.

THE STEPS IN LOOTING THE STATE:

Therefore, the following plan was carried out to gradually build the enormous support
structxire that would eventually be needed and then secure their wealth. (Some of these
steps took place concurrently.):

1 . Initially, smuggled "suitcases" of cash and the diplomatic pouch would be
used to move limited amounts of funds to help sustain the initial firms that
were to be founded and foreign accounts to be opened. In addition to cash,
diamonds and gold, antiques and art objects such as icons, paintings and
jewelry could also be smuggled. Some of the antiques and art objects were
pilfered fi-om Russian state museums such fi-om the Heritage collection in St.
Petersburg. However, great care had to be taken to avoid being detected by
local revenue services as no plausible source for the funds could be given.
(This occurred between 1986 - 1989.)

2. In the second phase, Russian organizations such as Komsomol, state
enterprises and factories were used to simply transfer large amounts of funds
for national reasons to their related offices and finns in the Soviet republics
and, where possible, to the West. These funds were to be used to found
firms and banks with no obvious ties to the CPSU, thereby preparing for the
next stages of this plan. In addition, funds were to be transferred to various
cooperatives founded by "friends", which would not only ensure the

315

financial success of these firms but also allow to provide a basis for
transferring more money in the future. As a result, most of the initial
"private cooperatives" in the USSR which enjoyed success, were actually
funded with oligarchy funds. (This occurred between 1986-1989.)

3. Simultaneously, trading firms were founded to act as "intermediary" firms to
sell Russian resources, such as oil, natural gas, non-ferrous metals,
diamonds, chemicals and cotton. These firms received these materials at
state subsidized "internal prices" and sold them at world market prices. For
example, at one time, the worid market prices of oil was almost ten times
that of the "internal" price. Profits fi-om these operations were deposited in
tax havens such as Switzerland, Cyprus, the Caribbean, Panama, Hong
Kong, Ireland and the British Channel Islands, where they would be ready to
assist in forming future "non-attributable" companies as well as being
available to be used as "Western investment" in Russia and the republics
under the cover of being "Western Joint Ventures". It was during this period
that Russian Premier Boris Putin allegedly left the KGB and became
responsible for the issue of permits for the export of non-ferrous metals and
other resources under the corrupt administration of former St. Petersburg
Mayor Anatoliy Sobchak. (This was typical for the period between 1989-
1991.)

4. In the fourth phase, fi-om 1989-1992, larger firms and banks could be
founded in Russia and the former republics, as well as in the West. When
possible, the off-shore accounts which had been previously established were
to be used to discreetly purchase controlling interests in existing banks and
firms with good reputations. Wherever possible, "fiiends of the party", who
were not overtly knowTi to be connected to the Party, were used as the
ostensible "investors". In the case of the Russian banks to be acquired under
this system, they were given exclusive licenses for trading in precious metals
as well as foreign currency exchange.

5. In the fifth stage, from 1989 -1991, "shell" corporations were founded in
Western countries such as Germany and Britain, as well as Ireland and
Switzerland, and the United States (especially in Delaware and California).
These firms then assumed loans from off-shore banks (from fimds previously
raised under this program), which were used to "invest" in Russia. This
system was frequently used to form "Joint Ventures" with "Westem firms",
that purchased key properties, factories and banks. This allowed these
"investments" to be protected by the laws of the Westem countries in which
the "paper" firms were located, as well as by international law. Therefore, in
order to provide additional protection, the "paper" firms were primarily
founded in countries which provided aid and assistance to any future Russian
governments; and, therefore, could not be provoked by attempts to seize
these "investments". Noted below is the text of a top secret decree of August
23, 1990 under the administration of Mikhail Gorbachev that called for the
creation of "an invisible economic structure" to conceal Soviet state funds

316

and wealth. Therefore, it is interesting to note that the Russian Central Bank
formed the off-shore structure FIMACO in 1990 - allegedly to hide Russian
government funds from possible attempts by Westerners to attach these
funds to unnamed defaults. Although it is estimated that over $ 50 biUion
passed through this one firm, no one can say where even the interest from
these funds (circa $ 5 billion at a minimum) went. The auditing fmn
PriceWaterhouse, the auditing firm, relied in its examination of FIMACO
solely on records provided by the Russian Central Bank and not on
independent research. Similar decrees were issued by the KGB and GRU in
1989 and 1990. Shortly thereafter, the current Russian Premier Boris Putin
allegedly left the KGB, then working at a position that controlled permits for
oil shipments out of Russia. The Russian press and some law enforcement
officials note that he developed ties to ROC during that time and was
investigated - unsuccessfully - for official corruption.

6. In the sixth stage, from 1994 to the present, the criminal structure became
highly developed and was capable of creating new income by using its
contacts in Russia and selected republics for "profitable investments", such
as purchasing materials and natural resources at rock bottom discount prices
(or receiving more material than was shown on the shipping documents and
contracts), as well as from legitimate investments in the West. Some of these
enteiprises were used to make large investments in Russia and its former
republics, which by then looked like "legitimate" foreign investments to
outsiders. Therefore, the purchase or controlling interest of existing Western
banks and firms with good reputations became an absolute priority.

There is one consistent thread throughout these steps in looting the state. The goal was to
take the money outside of Russia and keep it there, safe from any threats of retrieval
attempts by subsequent Russian governments. The Western banking system has provided
the network with which to move these funds. From my research, less than 5 % of these
funds have returned to Russia for investment. Those funds that have been reinvested, are
usually masked by "paper" firms in Western countries. Many Delaware firms that are
listed as US investors in Russia and the former republics are simply Russian citizens or
emigres that purchase a low cost US firm, take a mythical "loan" from a Caribbean
island account which they actually own but which never comes on-shore to the US where
it would be subject to scrutiny by the IRS or Treasury Department; and then becomes US
investment in the FSU. The US government is then obligated to protect these
investments and, of course, these "paper" firms make frequently political donations to US
politicians and political parties to obtain influence. The Russians who move their money
out of Russia recognize that it is an unsafe place to keep their money. They keep it in the
West. They much prefer to use the money of US investors to take the risks in Russia and
in some cases, to provide additional attempts at fi^ud.

WHERE THE KGB AND AND THE GOVERNMENT FIT IN:

317

In October 1990, several KGB First Directorate (Foreign Intelligence collection ) workers
were shifted to work in the Party Central Committee Property Directorate, so that a
structure that was capable of coordinating the Party's economic activities could be
established. The basis for this new group was an agreement between deputy General
Secretary of the Central Committee, Vladimir Ivashko; the Central Committee Treasurer
Nikolai Kruchina; KGB chairman Vladimir Kryuchkov; and, KGB deputy director Filipp
Bobkov. ■* Bobkov later became the chief of Security for MOST Bank. Also in October
of 1990, Bobkov sent a directive to selected overseas KGB residencies stating that they
should immediately begin to submit proposals for the creation of covert KGB commercial
firms and financial establishments. (This is approximately the time when Russian Prime
Minister boris Putin "left" the KGB and began to play a role in helping to loot Russia.) In
addition, the KGB office chiefs were to propose trusted "friends" with a clandestine
relationship to the KGB who would be able to either found such enterprises on behalf of
the KGB or allow KGB officers to enter their firms to oversee the management of ftinds
or low cost raw materials that the KGB would provide. This latter list was to include
even consideration of the "illegals" network. * KGB and Party money, more precisely
oligarchy money, which made up almost 80 % of the amount invested in the new banks,
stock exchanges, and businesses in 1990-1991. *

"Staff fi-om foreign intelligence (KGB First Chief Directorate - FCD) became the
creators and developers of commercial frameworks for the illegal economics of the
CPSU. Colonel L. Veselovsky, of the PGU staff, was called in November 1990 from
abroad. He was a specialist in international economics and was transferred to the work
on management of the Central Committee of the CPSU. Veselovsky prepared documents
for the small enterprise "Galactic" and other firms, where almost one billion rubles

belonging to the Party had been transferred L. Veselovsky accounted meticulously

for his activities to the leadership of the KGB. Consequently, the archives of the KGB
are fijll of detailed accounts of the creation of commercial structures and their managers.

The firing of Veselovsky two weeks before the August putsch is especially

noteworthy. Veselovsky immediately left for Switzerland, where he found himself a job
as consultant in four foreign firms."^ Prior to his departure, Veselovsky is reported to
have given a briefing of his planning and organizational work to four members of the
Russian Politburo - one of whom is reputed to be Yevgeny Primakov.

Yevgeny Primakov was then installed as chief of the FCD on September 30, 1991 and
then made chief of the SVR the successor to the FCD, in December 1991, where he
remained until January 1996. The FCD and then the SVR remained active in moving
Russian funds and resources out of Russia during most of this period. Therefore, it is
clear that Primakov had direct knowledge of these activities. At that time, Russia's
wealth ah-eady was vanishing into a black hole. Eight metric tons of platinum, 60 metric
tons of gold, hoards of diamonds and an estimated $15 billion to $50 billion in cash were,
according to reformist lawmakers probing KGB crimes, only a small part of state
property stolen under secret Commimist Party Central Committee decrees and transferred
to unknown hands by the KGB's espionage branch between 1989 and 1991. Primakov
held the keys to their recovery. However, when the Duma Ponomarev investigative

318

cominission repeatedly asked for information on these funds and where they had been
moved, it was also Primakov who refused access to the FCD and SVR records.
When the Russian investigators focused on the son of a former Soviet premier who
worked at a Luxembourg bank, as well as the son of disgraced former KGB chairman
Vladimir Kryuchkov who was KGB "rezident" in Switzerland, Primakov acted quickly.
He blocked the investigation and persuaded Supreme Soviet Chairman Ruslan
Khasbulatov to disband the Ponomarev commission. Untainted personally by corruption,
Primakov decisively sabotaged the only serious attempt to undo the massive thefl that
depleted Russia's treasury and strengthened its kleptocratic oligarchy.Therefore, as this
information was widely known from public sources, it is noteworthy that the current US
Administration took Primakov seriously during meetings of the Gore-Chemomierdin
Corrmiission or when Primakov asked for US Government assistance in looking for the
fijnds that had been looted from Russia. In his favor, he did refuse to support Yeltsin's
attempts to subvert the Russian prosecutor and was forced to resign for putting Russian's
interests above Yeltsin's.

On 5 January 1991, the KGB Third Directorate ^ in Moscow sent Top Secret Message
174033 to military bases throughout the USSR, which was a classified directive from
KGB chairman Vladimir Kryuchkov that called for the creation of private commercial
firms to sell military technology overseas. In it, Kryuchkov, cited the "deteriorating
domestic political situation and called for the creation of more apparently private,
commercial firms. Kryuchkov stated that this program had three strategic aims: 1) the
new companies were to serve as "reliable covers for (KGB) leaders and the most valuable
(KGB) operatives, in case the domestic .... situation develops along East German lines;
2) to provide financial means for the organization of underground work if 'destructive
elements' come to power; and, 3) to create conditions for the effective use of foreign and
domestic agent networks during (a period of) increased political stability.' The fact that
this message called for the raising of funds for political opposition clearly shows that
Kryuchkov was not optimistic about the chances of Gorbachev's success in maintaining
the Party system and that the KGB was already taking serious steps to prepare for the
future in terms of ensuring protected sources of funding.

On June 11, 1991, Gorbachev signed another secret Politburo resolution which
authorized the transfer of six hundred million rubles to commercial organizations and
banks established by Party bodies such as the Komsomol. The resolution directed that
these funds were to be used to invest in the creation of "modem forms of economic
activity, such as shareholding companies and small enterprises as well as to be made
available to "rehable" foreigners willing to establish joint ventures with Party
enterprises.' Evidence presented in a 1992 trial concerning the harming of the
Communist Party indicated that Gorbachev had signed another such Politburo resolution
in 1991 directing that Party property throughout the USSR should be transferred to
reliable "private" owners.'" In the jargon of the Communist party, this normally meant
that these would be members of the nomenklatura or their families.

CORRUPTION IN ROC: IT IS PUBLICLY KNOWN

319

As can be seen, there has long been a great deal of evidence of extreme corruption and
criminal activity at the highest levels of the Russian government - the same leaders that
we have unquestioningly supported and not forced to adapt meaningful reforms. To
reinforce this point, let me provide one more significant illustration. On June 27, 1994,
then CIA Director R. James Woolsey presented testimony before a House Committee that
included a statement that detailed the size, nature and dangers presented by ROC.
Woolsey noted that "Of the 2,000 banks in Russia today, a majority are controlled by
Organized Crime , according to the Ministry of Internal Affairs. The Ministry says there
are roughly 5,700 Organized Crime groups in Russia , with an additional 1,000 in the

other former republics According to a 1994 report prepared for Boris Yeltsin by the

Analytical Center for Social and Economic Policies, 75 percent of Russia's private
enterprises pay 10 percent to 20 percent of what they earn to criminal organizations.
More recent estimates from 1996 and 1997 are 20 to 30 percent of the profits must now

be paid to the Mafiya - with these costs being passed on to the consumers Some

40,000 state and privately run companies, including most of the country's banks, are
controlled by 150 criminal syndicates.'^

Corruption among the police is rampant. Frequently, in Russia as well as former
republics like Latvia, victims of car theft are referred by the police to Organized Crime
groups who often will agree to return the vehicles in exchange for paying half its original
purchase price. The police often offer to help the victims to contact the Mafiya. This kind
of maneuver has become standard procedure, confirm other Russians." Retired Russian
police general Aleksandr Gurov noted what many Russians confide in private, in that the
Russian Mafiya now acts in place of several state agencies, such as the police, court
systems, etc., and it is to the Mafiya that many businessmen are forced to turn to obtain
payment on contracts, received paid for goods, etc.

FBI Director Louis Freeh stated before the US Congress that over 200 of Russia's 6,000-
odd crime gangs operate with American counterparts in 17 U.S. cities in 14 states.
According to intelligence reports, members of criminal groups in Russia are sent to
reinforce and consolidate links between groups in Russia and the United States. Russian
Organized Crime figures are also sent to this country to perform a service such as a
gangland murder or extortion.

The Moscow Criminal Police reported as early as June 1991 that one third of the criminal
groups in Russia were connected to the shadow" or second economy.

In April 1994, the Mafiya was estimated to have 55 percent of the financial capital and 80
percent of the privatization shares and vouchers in Russia. As a result, they were able to
control the privatization process, arrange wanning bids very much below market prices
and arrange the outcome of the bidding in at least 70 percent of the privatization
auctions.

In April 1996, a senior officer of the Federal Tax Police Service was arrested for
accepting a US $ 200,000 bribe fi^om one single commercial company. This was one of
the few such cases ever prosecuted.'^

320

In 1996, the Russian Newspaper Trud reported that the number of reported murders in
Russia rose from 15,500 in 1990 to 32,000 in 1995, adding that many of these murders
are the result of disputes over the division of the spoils of the market economy. Related
to these disputes, there were a reported 500 "contract" killings in 1995 of which 61
assailants were arrested. Although 73 percent of the reported murders in Russia are
solved, only 40 percent are solved in Moscow.'*

In September 1 996, Komsomolskaya pravda reported that regional political leaders use
Mafiya groups in inter-ethnic disputes in order to maintain their political power. The
article pointed out that many small businesses were also being set up by the Mafiya and
that over 300 city officials in Moscow belonged to criminal groups. In addition, the
estimated Mafiya turnover in Odessa is equal to the city's official budget. "^°

In a recent television interview, the Chief of the paramilitary Russian Ministry of Interior
special reaction unit stated that he believed that at least 50% of the raids that his unit
makes are a result of payments (bribes) to his superiors by businessmen who want to
harass their competition.

How then can any senior US official then say that they don't know or have any concerns
about ROC?

Tax-evasion is another major problem, about which Russian law is very vague. The first
national survey showed that in 1992, up to 40% of businesses did not pay taxes at all. By
very modest estimates, and bearing in mind that all figures are approximate, this
amounted to a loss of at least $2 billion (US) in government income. This figure does not
include spectacular profits made by various "entrepreneurs" fitjra the sale of western
hiunanitarian aid delivered to Russia during the winter of 1991-92. According to reports,
up to 60% was resold at free market prices. Again, the money was laundered through the
banks, loans were issued and, by conservative estimates, an estimated $15 billion (US)
was transferred abroad in 1991-92. The fact that Russian law enforcement activities are
rather uneven has a variety of causes. However, it is particularly noteworthy that even
some of the most effective Russian police organizations are somewhat "tainted". For
example, at the meeting in which Major General Vladimir Rushaylo, former chief of the
regional Organized Crime Administration (RUOP) and later deputy Chief of the Main
Administration on Organized Crime of the MVD suddenly resigned in October 1996, he
stated that "the resources allocated from the budget are negligible, but for several years, it
(RUOP) found sponsors among commercial structures."^ (NOTE: Major General
Vladimir Rushaylo returned as deputy Minister of Interior and was recently made
Minister of Interior. He is frequently accused of being the official responsible for
suppressing key information concerning alleged ROC kingpin Sergei Mikhailov during
his trial by the Swiss authorities.) As it is commonly accepted that at least 80 % of the
commercial structures pay protection to the Mafiya - at a minimum - it is interesting that
commercial structures - which RUOP was supposed to control and investigate - wctc
providing the budgetary means for this law enforcement group.

321

"According to the information from (Russian) law enforcement agencies, up to 70 % of
the real estate put up for auction ends up in the hands of persons selected in advance...
According to information received from sources in the Ministry of Internal Affairs
(MVD)and in entrepreneurial circles, a gradual merging of three social groups is taking
place in Russia at levels from the Rayon to the Oblast level, and they are laying their
hands on various levers of power. This applies to the bureaucracy, above all, which has
the experience of managerial work in the former system and which has united with the
'new people' who soared to the ruling heights in the late 1980's and early 1990's on the
wave of the anti-Communist movement. It also applies to people in legal and shady
business activity, who are closely linked to the third group - the criminal world.... In the
opinion of the staff of the Russian MVD Department for Combating Economic Crime, a
tendency has already become apparent to move away from individual, albeit very
frequent, cases of bribing representatives of the power elite to that of close and regular
cooperation among the apparatus elite, businessmen and criminal forces connected wdth
them. The 33 % of all embezzled funds which was used to bribe 'State officials' in the
1980's has now increased to more than 50 %. Among those against whom proceedings
have been initiated for corruption, 42.2 % are employees of ministries, State committees,
and regional management organs. More than 50 % of all capital and 80 % of voting
shares (in commercial enterprises) now go to criminal structures."

ARE RUSSIAN BANKS THE ONLY THREAT?

Russian banks and firms are not the only ones that need a special level of scrutiny.
Latvia, a former Russian republic, is now allegedly on the "fast track" to becoming a
member of the European Union and NATO. Riga, Latvia was the scene in June 1999 of
Ms. Lucy Edwards presentation on how to avoid difficulties with US money laundering
laws on behalf of the Bank of New York. However, take a close look at Latvia and you
will see that its banks and firms also deserve special attention.

Of interest to Russia for several centuries due to its ice free ports on the Baltic Sea,
almost 48 % of Latvia's ethnic population stem from Russian ethnic origins. Lacking
any natural resources, in the USSR, it was primarily a transit site with a few
manufacturing industries tied to Russian raw materials. Since independence in 1991, the
two main industries are acting as a "intermediate" off-shore banking center for Russia
and facilitating the transit of Russian oil to the West, In June of 1997, the Russian
press reported that ''almost all Latvian banks are mediators in transferring Russia's
money abroad" and that ''a special committee, headed by PM Viktor
Chernomyrdin, had been formed to stop the illegal flow of Russia's money via

Latvian banks The average monthly turnover of such operations in one bank

reaches 10-15 million dollars.' Internet sites on the infamous island of Nauru now
advertise Latvia as an off-shore banking center. At the same time, the United Nations
report on hiraian development listed Latvia as 93"* in the world, between Ecuador and
Iran, and much lower than Estonia, Lithuania and Russia. ^^

322

In late 1996, the European Union issued a report stating that there was large scale
corruption at all levels in Latvia, particularly in the Ministry of Interior for the taking of
bribes. ^' The report added that "In the opinion of European Union experts, one-third of
the turnover of goods and services in Latvia is controlled by criminal groups, and 50
percent of the profits obtained by criminal means goes towards bribing officials." The
report went on that "Specific facts on the presence of corruption in the country were
presented to the Latvian authorities by the European Union commission which had
conducted an independent investigation. EU experts came to the unanimous conclusion
that corruption exists in all branches of Latvian power. In their opinion, the transition to a
fi-ee market economy in Latvia led to its criminalization. Organized criminal groups
participate in every lawful and unlawfiil deal. In 1993, they controlled one-third of the
turnover of goods and services. The commission expressed the supposition that
approximately 50 percent of the profits obtained fi-om criminal activity go towards
bribing officials. An especially critical situation has been formulated in the activity of the
customs service, the state income service, and Minfin [Ministry of Finance], which are
influenced by government officials of all ranks who have no official powers and authority
to do so. For example, the investigative agencies of the customs service do not have
access to customs warehouses belonging to high-level individuals. Customs officials are
bribed, and the most stubborn ones are dismissed fi-om work. In order to get an
assignment as a customs officer at a profitable border station, one must give a bribe in the
amount of $5,000. For duty-fi-ee passage of large shipments of goods across the border,
one must pay no less than $7,000. Analyzing the situation with organized crime in Latvia,
the EU experts came to the conclusion that all of it is tied with Russia. But most of all,
they were amazed by the fact that even businesses in which only citizens of Latvia may
engage according to Latvian laws, for example pharmacology and detective activity, were
associated with Russian criminals. Seemingly in confirmation of the commission's
conclusions, the German journal Impulse published a rating of corruption in the countries
of Eastern Europe. According to its estimates, in Latvia, for example, businessmen are
forced to resort to the aid of bribes for promoting their businesses more than in the
neighboring Estonia and Lithuania. Although, the journal admits, Latvia is still a far cry
fi-om Russia. There the envelopes are thicker, and there are more addressees."^'

During the period of the Post-Communist oligarchy, selling low priced non-ferrous
metals (among other things) to the West for high profits, Latvia became one of the major
exporters of non-ferrous metals in the world - even though it has no such metal resources
of its own. The deputy head of the Russian Ministry of Interior organized crime division,
Boris Baturin, stated in July 1992 that "Our operative information indicates that the
smuggling of raw materials (fi-om the Baltics) is being reinforced at the highest level in
Moscow. We know there is a well-organized Baltic crime syndicate run by former Party
nomenklatura and former KGB and police officials, which uses its connections inside the
Russian leadership to monopolize export operations".^* In January 1997, Latvian Prime
Minister Skele resigned for a short time because the Parliament did not want to accept his
proposed Minister of Finance due to concerns about corruption and conflict of interest
The proposed Minister was eventually accepted. In May 1997, Prime Minister Skele
threatened to resign again if the Parliament continued to leak allegations of his
involvement in the disappearance of G-24 funds, stated that "it is not acceptable that any

323

doubt is cast upon the premier's office".'" In 1997, one third of the Latvian Parhament,
the majority of the Cabinet and the President of the country were found to be openly
violating the new government regulations on anti-corruption passed in the Fall of 1996.
When confronted on this issue, many simply refused to comply. However, when their
cases were reviewed by the Prosecutor's office, most cases were found to be only
"technical" violations.' '

According to the former Minister of Interior until 1996, Janis Adamsons, "the authorities,
including the parliamentarians and the government, are so criminalized that the
personality of not only a minister but even the head of government has no significance
under these conditions." Adamsons lost his position after only one year, primarily due to
a controversy over the Ministry's investigations concerning Latvian Prime Minister
Andris Skele, on whom Adamsons' department had accumulated dozens of volumes of
operative information. These files dealt with the privatization of the food processing
sector, to which Skele, as the former deputy minister of agriculture, had direct relations,
as well as with the expenditure of $55 million in foreign credits which were distributed
by a private firm created under that very same Ministry of Agriculture. On the eve of
Skele's confirmation to the office of prime minister, Adamsons spoke out in the
Parliament voicing his doubts regarding the proposed candidacy. The investigation
materials of the Interior Ministry were then handed over to the State Prosecutor.
Adamsons received a reply several months later, after Andris Skele had already assumed
the office of prime minister, while Adamsons himself had vacated his. In a letter to the
ex-minister, the State Prosecutor stated: "Considering the fact that your report was based
on suppositions, the information mentioned in it is not the truth." The materials of the
operative investigation were buried.'^

In January 1997, Skele himself was forced to temporarily resign because of a scandal
surrounding the dubious reputation of his proposed minister of finance, Vasiliy Melnik.
The press attributed involvement in the trading of contraband alcohol to Melnik, as well
as participation in unlawful privatization. Once again, the State Prosecutor did not find
anything punishable in the businessman's actions, but the government fell nevertheless,
"...on the eve of the prime minister's resignation, the coimtry's President, Guntis
Ulmanis, admitted that he surmised that corruption does exist, but that, imfortunately, he
does not have any specific facts. Ten days later, after personal reproaches of Andris Skele
for amorality and lack of principle, in the course of compilation of the government, the
President assigned the task of formulating the new cabinet to.. .that very same Skele."''

ATTEMPTS TO MINIMIZE THE RUSSIAN PROBLEM:

Most people tend to view problems in tenns of their own experience and history, which
often promotes false comparisons. These are two common fallacious arguments.

Image: Russia today is just like Al Capone's reign of tenor in Chicago during the late
1920*8 and early 1930*8.

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Fact: For the US to be like Russia is today, it would be necessary to have massive
corruption by the majority of the members at Congress as well as by the
Departments of Justice and Treasury, and agents of the FBI, CIA, DIA, IRS,
Marshal Service, Border Patrol, state and local police officers, the Federal
Reserve Bank, Supreme Court justices, U.S. District court judges, support of the
varied Organized Crime families, the leadership of the Fortune 500 companies,
at least half of the banks in the US, and the New York Stock Exchange. This
cabal would then have to seize the gold at Fort Knox and the federal assets
deposited in the entire banking system. It would have to take control of the key
industries such as oil, natural gas, mining, precious and semi-precious metals,
forestry, cotton, construction, insurance, and banking industries - and then claim
these items to be their private property. The legal system would have to nullify
most of the key provisions against corruption, conflict of interest, criminal
conspiracy, money laundering, economic fraud and weaken tax evasion laws.
This unholy alliance would then have to spend about 50 % of its billions in
profits to bribe officials that remained in government and be the primary
supporters of all of the political candidates.''^ Then, most of the stolen funds,
excess profits and bribes would have to be sent to off-shore banks for
safekeeping. Finally, while claiming that the country was literally bankrupt and
needed vast infusions of foreign aid to survive, this conspiratorial group would
invest billions in spreading illegal activities to developed foreign countries
which provided them with foreign. In the best case of this comparison, the U.S.
President would not only be aware of all of these activities but would also
support them - including the involvement of his own daughters and all of his
close political and financial supporters. Further, he would direct a campaign to
smear and remove the Attorney General for investigating the office of the
PresidentObviously, this scenario dwarfs what went on in Chicago during
Prohibition. Far from assisting the mobsters, the federal govenmient fought Al
Capone, ultimately sending him to prison for income tax evasion.

Image: Conventional wisdom holds that corruption and the power of Organized Crime
will diminish as capitalism and free enterprise improve economic conditions,
and democratic reforms will gradually reshj^e the government and
infrastructure of Russia, causing criminal enterprises to spontaneously
"legitimize" their operations.

Fact: This view is totally misplaced. The expected improvements in the economy,
infrastructure and government of Russia may well not take place for the next
five to ten years and will not occur at a pace required to overcome the corruption
and criminality now rampant. First, as much of the money flowing into Russia
due to criminal activity and foreign aid is sent to off-shore banks for investments
and to pay for the corruption of public officials in Russia and other cotmtries as
well, it is not likely to aid the Russian economy. Secondly, there is no way to
reign in this oligarchy of criminals, government officials and the former cream
of the Commimist Party. There is no incentive to change. Most Russian
businessmen claim that a deal with less than 100 % profit is not worth doing.

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Organized Crime groups count on profits over 300 %. Why should they settle
for less, much less allow competition? Third, if a new company is formed that
shows signs of being successful, Organized Crime groups immediately vie to
see who will take it over first. Finally, as bank interests rates have dropped to
"only 20 %" per annum (from over 100 % in 1994), Organized Crime demands
20-30 % of a company's turnover for "protection". Bribes are almost
universally required for the performance of the most mundane state
administrative task, such as licenses, permits, duties, etc. The state has imposed
taxes of up to 70 % on profits, and operating costs are exorbitant due to high
inflation and rising costs of goods and services. Even then, the most honest
businessmen are forced to have dealings with Organized Crime in order to
collect business debts and enforce contracts, because the police and courts are
unwilling or unable to do so. Many Russian businessmen will remind visitors
that it is cheaper to pay to have your creditor killed than to repay a debt.

The general current view of the United States and other Western countries involved in
supporting democracy and market reform in Russia appears to be based on the
assumption that the Russian government is doing its best to simultaneously create a free
market, introduce democratic reforms, conduct a fair and rapid privatization of state
properties and persuasively convince a skeptical Russian public that all of this is their
best interests. Within this view, the Russians are genuinely struggling to fight Organized
Crime and continue to conduct a series of anti-Mafiya and anti-corruption campaigns
which will lead to the eventual destruction of the mob. In actual fact, rather than
protecting the masses from Organized Crime, the top party elite themselves adopted the
methods of Organized Crime to insert themselves into commercial ventures. To do this,
they heavily relied upon the KGB, whose predecessor the Cheka during 1920s eradicated
private business, free market activity, by confiscating the citizens' private property,
arresting and murdering tens of thousands of individuals for conducting any form of trade
or barter. Further, the Cheka was responsible for collecting and cataloguing the spoils
from these activities for the use of the Communist Party and also for tracking down
exported hard currency that was in foreign banks outside Russia. Later, the KGB
increasingly served the systematically corrupt Communist Party nomenklatxira. by
becoming a critical component in creating their commercial and criminal ventures.
The problems of Organized Crime and official corruption are not new in Russia. The
evidence shows that the top echelon are, in fact, at the heart of the problem and actually
helped create the existing dire situation. The country's corrupt bureaucracy, continued
lack of adequate laws, history of disregard for the law and regulatory systems, and the
close association between the, illegally enriched bureaucrats and Organized Crime groups
were fertile ground for the current wave of criminal activity in Russia and around the
world.

BACKGROUND ON THE RUSSIAN BANKING SYSTEM
INTRODUCTION

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The Russian banking system today is an adjunct to Russian Organized Crime, itself the
successor to the former Soviet nomenklatura who took control of major hard currency
holdings and resources of the Communist Party and the Soviet state. Thee criminal
syndicates, in which the foreign intelligence service played a significant role, control the
exports of raw materials and have used the profits to build business and banking
conglomerates. In many cases illegal cash transfers have been laundered through two or
three levels of Russian-controlled companies and banks. Now these syndicates are buying
interests in Western banks and businesses.

To appreciate the process that led to the looting of the Soviet state, it is first necessary to
understand the major participants, as well as how they developed a system of formal and
informal interdependence. However, it is also critical to understand that there were two
general criminal groups, usually working independently but occasionally joining forces.
They were and continue to be sometimes competitors or even enemies, and sometimes
partners of convenience. They both meet the definition of Organized Crime groups. The
current definition at Interpol's Organized Crime unit is: "Any group having a corporate
structure whose primary objective is to obtain money through illegal activities, often
surviving on fear and corruption."

THE NOMENKLATURA

The first group, the nomenklatura, includes the former officials of the USSR (although
many continue to work for the Russian government) and is made up of the apparatchiki
(bureaucrats), managers, senior officials of the government, as well as the KGB and
Russia's "Military Industrial Complex" (MIC). The second group is that of the Mafiya.
When Russians talk of Organized Crime or criminal looting, they are fi-equently referring
to both of these groups. While each group poses a serious danger to the state of Russia,
its development, and is spreading corruption on an international level, their methodology
and resources are fi-equently different.

The "nomenklatura" were the ruling class in the USSR. Upon the collapse of the USSR,
they totaled about 1.5 million fi-om a then total population of about 240 million. Their
power came fi-om being on a secret list of the most worthy Party members, which was
prepared periodically by the Central Committee of the Communist Part of the Soviet
Union (CPSU). The first name on this list was traditionally that of the General Secretary
of the CPSU. The nomenklatura enjoyed a privileged life, had a monopoly on top
positions in the state structures, such as ministers, deputy ministers, CPSU Party
leadership positions at the regional and republic level, all senior government positions,
military officers as well as key industrialists and managers, particularly in the Military
Industrial Complex (MIQ. Similar to the aristocrats in England, France and Russia in
past times, the nomenklatura, as a rule, did not mix with outsiders or marry outsiders.
They lived in special compounds, had special holiday retreats, and their children attended
special schools. In addition, they had special privileges in the form of subsidized stores,
state transportation at their disposal and reserved places for their children at the
tiniversity.

327

They also formed the top echelons of the so-called "apparat" (bureaucracy) and were the
top "apparatchiki" (bureaucrats). They enjoyed almost a total monopoly on power and
information. In short, they had the most to lose with the fall of Communism.

CONCEALMENT OF STATE-PARTY ASSETS

The first formal planning sessions by an elite group of the Soviet Politburo and senior
members of the nomenklatura to place the funds, properties and resources of the
Communist Party of the Soviet Union (CPSU) beyond the reach of any subsequent
"democratic" regimes began in 1984, the year of Yuri Andropov's death and the
beginning of Konstantine Chemenko's thirteen-month reign. Within two years, the elite
economic planners had requisitioned the services of specialists in the First Chief
Directorate from the (KGB). They were experienced in moving money abroad for the
CPSLTs International Department and for KGB operations. The movement of money
abroad was a closely held secret. Only a handful of officials were informed on a need-to-
know basis, among them the CPSU Politburo's administrative chief Viktor Chebrikov and
Central Committee treasurer Nikolai Kruchina. The financial planners group determined
that the local KGB residencies overseas would not be able to be the principal movers of
hard currency abroad over a protracted period. The voliune of money involved was
simply too large for the diplomatic pouch and such crude techniques as lugging suitcases
stuffed with cash, gold, raw and cut diamonds, jewelry or art across the border. However,
KGB channels and techniques did account for a portion of the initial movement of funds
that helped establish the first of these covertly held commercial endeavors.

As the 1980s drew to a close, it became clear that General Secretary Mikhail Gorbachev
was rapidly losing control of his attempts to make incremental adjustments to the
government and economy while retaining the preeminent position of the Communist
Party. At this point, the elite economic group began to put into effect contingency plans
to move assets to safety abroad. Soviet state enterprises transferred assets to subsidiary
enterprises newly established in foreign countries from Cyprus to the Caribbean.
Subsidiary enterprises included export-import offices, banks and trading companies
established to market Soviet products. Some had no obvious ties to the Soviet
government, but were instead formed by individuals who had obtained 'loans" from the
associated banks. The result was that most of the ostensibly private cooperatives formed
in the Soviet Union in the late 1980s and hailed as success stories of "perestroika"
(restructuring) were formed with state funds and were fronts or covers for state interests.

Trading companies established to market an assortment of state resources took on a larger
role. These firms obtained products from petroleum to cotton and diamonds at the state-
subsidized price and sold them abroad at market prices for hard currency. The profits
were enormous and were not sent back to Moscow, but were placed in all ihe world's tax
havens such as from Switzerland to Hong Kong and fix}m Cyprus to the Cayman Islands.
There, the profits could be "laundered" by being put to use in forming a new generation
of companies in which the Soviet Party and state origins were even harder to discern.
Some of the money did come back to the USSR, sometimes in joint ventures with Soviet
entities, but was represented as Western direct investment This practice gained

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momentum in the period from 1989 through the dissolution of the Soviet Union in
December 1991.

In June of 1990, the first of many private banks were established with Party funds. (Some
quasi-independent banks had been established using State funds in 1988, as part of early
experiments to see how effective these banks would be in removing funds from the
USSR.) Some thirty-one million rubles (about $1.2 million at commercial 1990 rates)
were placed as start-up capital for an operation envisioned as leading to large-scale credit
and investment transfers in Russia and abroad. Officials reported that they planned to
transfer an additional five hundred million rubles (about $20 million) from the Party's
reserves to the account by that autumn because of what was seen as the deterioration of
the economic and political situation in the country.

A Politburo resolution entitled "On Emergency Measures to Organize Commercial and
Foreign Economic Activity of the Party," dated August 23, 1990, directed the creation of
several new "commercial organizations." These were to include a consulting firm to
provide foreign brokerage services and a bank for administering the Party's hard-currency
holdings, as well as its investment in international firms controlled by Communist parties
abroad. The resolution also directed that structures created under this directive were to
have minimal visible ties to the Communist Party. "Anonymous organizations [will]
mask direct links to the Party when launching commercial and foreign economic Party
activity." These structiu-es were to be called "Friends of the Party" or "Companies of
Friends." (INCLUDE TEXT????)

Taking advantage of the nominal requirements of less than $20,000 to found banks,
members of the Russian Mafiya groups also began to form new banks.

The party-state nominees (individuals not publicly known to be allied with the
Communist Party) used funds from the sale of raw materials held in accounts in foreign
banking havens to buy the new Russian banks. Some were given extraordinarily
profitable monopolies and quasi-monopolies, such as the right to exchange foreign
money or to trade in commodities. This growing commercial and banking network was
used to set up another level of firms in Western countries, especially the United States,
England and Germany, countries whose governments were committed to providing aid to
the "reform" government of the Soviet Union and later the Yeltsin government These
new firms then obtained loans horn the banks for still more "joint ventures" to purchase
important factories, banks and properties.

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As a result of these banks and a variety of other structures used to illegally and covertly
transfer assets, funds and undervalued assets totaling between $300 and $500 billion were
moved outside of Russia and the former republics into the West. To date, less one half a
percent, or about $2.5 billion, has been moved back into Russia as investments. Thus, the
primary goal has been to invest Western funds in save and stable Western economies,
while maintaining their stolen funds in offshore tax havens.

For the past several years, Russian enterprises, formed with the assets of the party-state
and controlled by the organized criminal groups that participated in the looting of state
assets, have been buying controlling interests in banks and commercial entities in the
West.

In 1994, then-Director of Central Intelligence James Woolsey stated that "of the 2,000
banks in Russia today, a majority are controlled by Organized Crime, according to the
Ministry of Internal Affairs." In August 1995, the Ministry of Internal Affairs (MVD)
All-Russia Scientific Research Institute estimated that criminal groups controlled more
than 400 banks and 47 currency exchanges. An even more pessimistic assessment was
given by Professor Lydia Krasfavina, head of the Institute for Banking and Financial
Managers, who estimated that 70 to 80 percent of private banks in Russia are controlled
by Organized Crime. Illicit banking practices are widespread.

According to a 1997 report by the Washington-based Center for Strategic and
International Studies (CSIS) that drew heavily on FBI data, 71 percent of Russian banks
violated Russian Federation banking legislation in 1995. The report also claims that one
half of Russia's 256 largest banks have ties to Russian Organized Crime because they
present lucrative targets for extortion and money laundering. Those figures are actually
severely understated. There are literally no Russian banks without ties to Organized
Crime; otherwise they would never have accumulated the necessary funds and would not
continue to exist. Incredibly enough, most definitions of Russian Organized Crime fail to
include the overwhelming number of current and former Russian officials involved and
focus strictly on the Russian Mafiya.

The "instantly privatized" banking industry initially had over 800 banks and then grew to
over 2,500 by 1995. That number has been steadily declining. By 1995, there were banks
in Russia that were paying interest rates of 1,000 to 1,500 percent per annum. However,
by the spring of 1995, some banks, the MMKB, began to collapse; and the overall
number of banks began to dwindle. In the aftermath of the 1995 banking crisis, liquidity
in the Russian banking sector grew tight. There was a general flight to quality among
both borrowers and depositors, exacerbating liquidity problems for many second-tier
institutions. Liquidity difficulties at larger banks often were triggered by asset quality
problems (like Autovozbank and Credobank) or over extension of the balance sheet (like
in the case of Unikombank). Yet in the case of larger banks, the Central Bank illustrated
its willingness and ability to intervene, lending support to important banks such as to
Tveruniversalbank.

By early 1996, Russian banking had rq)idly decreased in numbers to about 2,132 banks
which were active domestically. About half of Russia's banks were financially distressed

330

and were not expected to be able to meet more stringent reserve and regulatory
requirements introduced by the Central Bank. By late 1997, some 1,700 banks continued
to struggle for existence. A small, influential group of about fifty banks, several of which
got their start with state or Communist Party funds during the Soviet period, have made
large profits in recent years due to their cormections to political and economic big-wigs.
These banks became part of what are known as Financial-Industrial Groups (FIGs), in
other words holding companies with large industrial enterprises. 1996 was a watershed
for Russian banks. This was the year that FIGs exponentially increased their strength and
discovered their ability to "guide" the political structures via direct and indirect campaign
funding. Powerful banks play key roles in all the major groups of FIGs, including even
that of former Russian National Security Council leader Boris Berezovsky's LogoVAZ
group. With the exception of Inkombank, these institutions bankrolled President Boris
Yeltsin's 1996 reelection campaign. Since that time, its moguls have fallen out with one
another. Power struggles continue as these groups strive to increase their control over key
sections such as energy and minerals, to name a few.

Bank leaders have held key posts in the government and played a major role in reflecting
Boris Yeltsin in 1996. The government sometimes depends on large banks to make up
budget shortfalls through the purchase of short-term securities and (sometimes) paying
taxes. The government has "authorized" more than 50 banks to handle state funds. The
city of Moscow, for example, has spread the funds from city agencies around several
financial institutions. Some banks are authorized institutions for a wide variety of
national, regional and city governments, as well as jurisdictions in the former Soviet
republics. "Authorized banks" and their managers have often generated huge profits by
delaying budget transfers in order to invest in the high-yield government securities
market. (Firms usually must transfer customs payments in advance of actual delivery of
goods, which leaves the money sit in the accounts for several weeks.)

Obtaining status as a favored, authorized bank is highly dependent on the political
cormections of the individual bank's management and is most likely fostered corruption.
In 1996, for example, the watchdog State Control Chamber found that $4.4 billion in
state funds intended - though never legally budgeted - for restoration in Chechnya and
funneled through favored commercial banks wound up in the pockets of government
officials. In order to eliminate these problems Yeltsin has called on the Cenfral Bank to
set criteria for the selection of authorized banks for federal money to ensure that, with
few exceptions such as the Defense Ministry, they are selected through open competition.

However, these banks - who "found" millions of dollars of resources and turned dozens
of members of the former Party nomenklatura into instant millionaires, used their new
wealth and old connections to acquire more holdings in large industrial enterprises • the
FIGs.

In the fall of 1996, Berezovsky bragged that he and six fellow tycoons, who also are FIG
leaders and sometimes are called the "Big Seven," controlled half of Russia's economy.

Some FIGs were created fi'om above by the fusion of several large industrial enterprises.
A second group of FIGs was created at the initiative of industrial giants such as Gazprom,

331

LUKoil and VAZ to service their own financial needs. The third group comprised those
FIGs that grew from the large banks that were the direct descendants of the previous state
banks.

THE LEADING FIGS (BEFORE THE FINANCIAL CRASH OF
AUGUST 1998)

• Promstroibank (Industrial Construction Bank), owned by about 20 juridical persons -
corporate entities and individuals. Represents state interests.

• Vneshtorgbank (Foreign Trade Bank). Represents state interests.

• Menatep Empire, owned by about 60 juridical persons. A semi-private, highly
privileged financial group.

• ONEXIMBank-MFK (United Export-Import Bank/ Financial Corporation): owned by
about 30 juridical persons. A semi-private privileged financial group).

• Rossiisky Kredit ([Russian Credit) empire: owned by about 30 juridical person. A
semi-private, privileged financial group.

• Inkombank (Bank of Foreign Commerce) empire: owned by about 30 juridical
persons. A semi-private, privileged financial group.

• The MOST banking empire: owned by about 42 juridical persons. A semi-private,
privileged financial group.

• Yuksi empire: In January of 1996, Mikhail Khodorkovsky, a high-profile banker who
headed the AO Yukos oil company, and Boris Berezovsky, the dollar-billionaire
believed to control the Sibneft oil company, announced the merger of their oil
companies. The new company, AO Yuksi, is the world's largest public company by
proven reserves [16.1 billion barrels] and the third biggest company by oil
production, behind only Royal/Dutch Shell and Exxon. On the weekend of March 21-
22, Yuksi announced a five-year contract with the U.S.-based Schlumberger Ltd., an
oil service provider, to manage certain of Yuksi's vast yet antiquated oil fields. A day
later, Yuksi's Khodorkovsky announced the sale, for more than half a billion dollars,
of a five-percent stake in Yukos to France's Elf Aquitaine. Facilitated by Goldman,
Sachs & Co and Salomon Inc., the deal with the French company would have
provided the money and the Americans the technology and know-how for secondary
and even tertiary extraction of crude petroleum fix)m Yuksi's wells. Elf and Yuksi
were considering a joint bid for the largest remaining oil-producing Russian state
concern, NK Rosneft, a 75 percent stake in which is being o£fered for $1.2 billion.
Finally, at the last moment, tfiis merger did not take place.

• SBS-Agro [formerly Stolichny] with Aleksandr Smolensky, president; chairman of
the board of directors, Agroprombank.

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• Alfa Group: Not to be confused with the SPETZNAZ commandos who killed the
president of Afghanistan and seized Kabul's airport in December 1969, the Alfa
Group grew out of Courier, a trading company founded in 1987 by graduates of the
Moscow Steel and Alloys Institute. It later thrived on foreign trade activities and
connections to the Ministry of Foreign Economic Relations as well as the former
KGB. Alfa Group is owned by Mikhail Fridman and Pyetr Aven, who was a minister
in Gaydar's government. In 1995, Alfa Group appointed as its chairman, L. Vid, who
formerly was deputy head of Gosplan, and chaired Premier Chernomyrdin's Russia Is
Our Home party. Its current political patrons include Anatoly Chubais and Yegor
Gaydar.

The elite banks and their FIGs are also the key financial players in the constantly shifting,
informal networks of alliances ~ sometimes called clans ~ that dominate Russian
politics. In addition to authorized banks and their industrial groups, these networks
include political leaders, media holdings and armed security forces. These clans are in
constant struggle with one another for political and economic advantage. Some banks,
however, spread their political and financial support among several major leaders.

As a result, Russia has developed an economy distinguished by the following features:

• First, it is based upon large FIGs, with financial capital prevailing over industrial
capita!;

• Second, it has at its foimdation the class of "authorized" or major property owners, to
which the State has entrusted the development of the market; and

• Third, in the absence of equal opportiinity, it fimctions as a money maker for a thin
strata of chosen entities and people.

The elite or "authorized" banks and their FIGs are also the key financial players in the
constantly shifting, informal networks of alliances sometimes called clans, that dominate
Russian politics. In addition to authorized banks and their industrial groups, these
networks include political leaders, media holdings and armed security forces. These clans
are in constant struggle with one another for political and economic advantage. Further,
the large scale efforts of the FIGs to acquire major media outlets have given the "Big
Seven" control of the majority of the newspapers and radio and TV stations in Russia.
Thus, they can exert direct influence not only on the poHtical structures but also upon the
entire population. Most banks, however, spread their political and financial support
among several major leados.

For example over the years, Berezovsky has been close to political backers of a
remarkably wide variety of political stripes, including Alfa Group's Pyotr Aven, Yegor
Gaydar, General Aleksandr Korzhakov and Oleg Soskovets. He drifted toward Viktor
Chernomyrdin in the months before his dismissal in November 1997. There is evidence

333

that Berezovsky also provides financial support to Sergey Kurgiriyan's anti- Semitic,
ultra-nationalist Experimental Creative Center, a Moscow-based think-tank with ties to
the anti-Yeltsin opposition. Now Berezovsky is also very close to Tatyana Dyachenko,.
Yeltsin's daughter and his de facto campaign manager.

KEY POINTS

In the lower ranks, many banks were and will continue to be absorbed into larger
institutions, while others may face mergers. With so many players in the market, no bank
is likely to play a dominant role, though foreign transactions are concentrated among a
few, for Russian standards, relatively sophisticated institutions. Moscow-based banks
dominate more than 70 percent of the market. Possibly the top fifty local banks will
maintain significant international profiles over the longer term as the World Bank and
EBRD Financial Institutions Development Project works at creating "international
standard banks." Foreign banks have yet to set up business in Russia and challenge the
hegemony of Russian banks. However, this is not likely to happen soon.

The Central Bank's power to set interest rates and establish reserve requirements can
make life quite difficult for a major bank, but on many issues the individual banks get
what they want by relying on personal cormections to the establishment. The Association
of Russian Banks, the sector-wide banking organization, lobbies the government on
narrow, professional questions. However, their ability to finance and publicize political
candidates will continue to obviate the need for the leading major banks to respond to
serious regulatory initiatives fi-om the government. In fact, several prominent
personalities in these FIGs - among them former Premier Viktor Chernomyrdin, former
First Deputy Premier Boris Nemtsov and Moscow Mayor Yury Luzhkov - currently are
jockeying for high political office that includes possibly replacing Yeltsin in the year
2001 or even sooner.

The argument that some of the larger banks no longer engage in criminal activity is false.
They have simply evolved into a higher, more sophisticated level of criminal activity that
includes wholesale corruption of public officials and influence peddling. Russia's banker
criminals now control the government.

The major Russian banks need to remain deeply involved in politics and corruption in
order to retain their "authorized bank" status, which is necessary to survive and remain
competitive. Since the Banks cannot risk the loss of this special status, they have become
even more directly involved in politics. That also means that any attempts to reform the
banking system and inject Western banking controls will be fiitile. Attempts to reform the
legal and law-enforcement sectors will be unlikely to overcome such strong resistance.

Russian Organized Crime has supplanted the state. It offers basic services such as
security, debt collection and even its own "court system" for handling civil law claims.
Organized Crime controls the vast majority of the Russian banks; and in turn, the Russian
banks largely control the Russian government and legal system. The Russian banking
system has and will remain integrally intertwined with the Russian government until one

334

or the other falls. Corporate, criminal and political Russia have developed into one single
entity.

BANKING INSTABILITY

Two points best illustrate the fragility of the banking system and the economy in Russia.

During the final two days of the 1996 election campaign, when Yelstin's victory was
uncertain, there were 32 corporate jets standing by at airports in the Moscow area and
every seat on Western airlines departing Moscow and St. Petersburg were booked "as a
precaution." Should there ever be a dramatic political change in Russia, the ensuing panic
may make it come to resemble Tehran in 1979.

Less than $2.5 billion of the $300 to $500 billion Dollar siphoned out of Russia fi-om
1991 to 1997 has returned to be invested in Russia. Rather, the emphasis has been on
attracting foreign investment - which, against all odds, still continues at a fairly
significant rate. If investments in Russia were indeed secure, why would the Russians
continue to insist on the influx of foreign investment funds?

Some economists have argued that the situation in Russia will soon "normalize" and the
political and economic elites who comprise about 85 percent of Organized Crime in
Russia will allow the development of a free market economy, political and economic
reforms, an independent and effective judicial system and law enforcement structures.
Leaving aside the fact that the Russians have no traditions to draw on as a guide for
structures or models, this begs the fact that the political and economic structures now in
power can not allow these changes lest they want to lose their power. Any democratic
changes in the current system of oligarchy would jeopardize their new-found power and
wealth.

CONCLUSION

Even the most honest businessmen are forced to have contact with Organized Crime in
order to collect business debts and enforce contracts. The Russian criminal justice system
is by any democratic international standards utterly inadequate. The police and courts are
not only unable but fi-equently unwilling to enforce contracts and collect debts. Many
Russian businessmen continue to remind visitors that it is cheaper to pay to have your
creditor killed than to repay a debt

- cnd-

Three Appendices are attached.

335

APPENDIX A

COPIES OF PERSONAL DOCUMENTS AND SWISS BANK

ACCOUNT INFORMATION FOR PAVEL BORODIN, OF CHIEF OF

RUSSIAN PRESIDENT YELTSIN'S PROPERTY MANAGEMENT

OFFICE

336

APPENDIX B

COPY OF DIRECTIVE BY PAVEL BORODIN, OF CHIEF OF

RUSSIAN PRESIDENT YELTSIN'S PROPERTY MANAGEMENT

PROVIDING APARTMENT WORTH $ 500,000 TO NEW FEDERAL

PROSECUTOR REPLACING SKURATOV

ynr amehmc jtEJu>iK

nrOHBCHTA

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M0P03y B.8.

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yiVMMMPiA A«JUMi ^"/^ n.Bopojoni

337

APPENDIX A

TRANSLATION OF 1990 DECREE BY COMMUNIST PARTY

CENTRAL COMMITTEE UNDER GORBACHEV THAT WAS

ISSUED AT THE TIME THAT THE RUSSIAN CENTRAL BANK

FOUNDED FIMACO

"The General Division of the Central Committee of the CPSU
August 23, 1990

Re: Urgent measures on the organization of commercial and foreign economic
activities of the party (memo)

... A special place in the CPSU's new circumstances is taken up by the question
of establishing a connection between its enterprises, its economic organizations,
and its finances to foreign economic activity. This is vital not only for the
development of an autonomous channel for the obtaining of currency into the
party's cash box, but also for the financing of interparty connections.

For this purpose there must be a strict observance of discreet confidentiality and
the use of anonymous facades to disguise the direct issue of money to the CPSU.
The final objective is to build a structure of "invisible" party economics that will
be on a par with the "commercialization" of party economics; a very narrow circle
of people have been allowed access to this structure. This was determined by the
General Secretary of the Central Committee of the CPSU or by his deputy. All
this is confirmed by the experiences of many parties, working for decades within
a fi-amework of multiparty cooperation and market economics.

It is considered that the following measures should be undertaken in an urgent
manner in order to guarantee the conditions for the development of commercial
and foreign economic activity of the party along with its central organs:

. . . —To analyze in depth its real legal basis-the laws of the USSR and its
republics— in order to determine the optimal legal grounds for a transition toward
a commercial and foreign economic activity by the Party. In addition, to actively
establish links (through deputy communists) to prepare new legislative rulings in
the Supreme Soviet of the USSR and of certain republics with the aim of
safeguarding the protection of the Party's economic interests;

—To prepare a program on the formation of new "transitional" economic
structures (foundations, associations, etc.) which will act as formation centers of
the "invisible" party economics.

—To immediately start preparing motions to use anonymous forms to disguise the
yields for the CPSU in the process of developing the commercial and foreign

338

economic activity of the Party. To analyze, specifically, the question of the
possibilities of annexing international consortiums through presently existent and
functioning relevant enterprises through a consolidation of capital, etc.

~ To consider the questions regarding forming a bank controlled by the Central
Committee of the CPSU possessing rights to conduct currency operations; and of
the participation of the Party through its currency resources in the capital of those
firms operating on an international level which would, in their turn, be controlled
by the economic organization of fiiends. To insure foreign economic activity, it
is also advisable to urgently begin a new savings accoimt in the CPSU that would
come fi-om party dues fi-om foreign institutions.

—To carry out consultations with the Gossnab (State National Bank) of the USSR
on the question of using national property for the foreign economic work of the
Party; the property left after the Soviet armies left Czechoslovakia, Hungary and
the German Democratic Republic.

Comrade V. A. Ivashko"

339

' Moscovskiy Komsomolets, "Interview with Police Major General (Ret.) Aleksandr Gurov by Mark Deych;
place and date not given: "Aleksandr Gurov: 'Mafia Money Should Work for the State'", 10
November 96 p 2, in Russian, translated by FBIS in Daily Report FBIS-SOV-96-237-S.

^ Stephen Handelman, "Comrade Criminal: Russia's New Mafiya", by, (New Haven: New Haven Press,
1995), p. 57, in a conversation with Handelman.

' Personal conversations in 1995-1996 with "Ivan", a former Russian KGB officer who participated in this
program.

Personal conversations in 1995-1996 with "Ivan", a former Russian KGB officer who participated in this
program.

Personal conversations in 1995-1996 with "Ivan", a former Russian KGB officer who participated in this
program. The CC agreement was confirmed independently by "Igor", the former member of the CPSU CC
Administrative Department who participated in this program during conversations in 1995 and 1996.

Kpemlevskij Zagovor: Versija Sledstvija (The Kremlin Conspiracy: An Account of the Investigation),
("Ogonjok": OGIZ: Moscow, 1992), edited by Ya. Kikitina, Appendix 2, "Funds for the Phantom of
Communism", pp. 280-301. KGB First Main Directorate Colonel Leonid Veselovsky, had gained
experience in working with KGB owned and operated foreign front companies in the I970's and 1980's
which would later provide him with the expertise that the Central Committee needed in 1991 to help
conceal its assets in joint ventures.. Following his work with the CC International Department as a
participant in the hurried attempts to conceal its assets in joint ventures; he then became a consultant to the
international Swiss-based firm Seabeco AG (controlled by Soviet emigre Boris Birstein). He then gained
international prominence in 1993 a former KGB officer who first surfaced prominently in international for
his business dealings business dealings in 1993 when he was named by the Russian Procuracy as a target of
investigations into vanished Communist Party funds and into the nature of his subsequent, highly profitable
financial dealings - particularly with the firm Seabeco..

' The Third Main Directorate was responsible for military counter-intelligence, primarily in monitoring the
activities of the Russian military.
' Mark Deych, Literatumaya Gazeta, June 25, 1992.

' This resolution was found io the Central Archives of the Communist party in Moscow and published in
the magazine Ogonyok, November 12, 1991.
'" Reported in " What the Papers Say ", July 7, 1 992.

" "The High Price of Freeing Markets," The Economist, February 19, 1994, p. 57.
'^ Sunday Times London, April 10, 1994. Also See "The Russian Mafia" (Washington D.C.: U.S.
Department of Energy, Office of Intelligence and National Security, Office of Threat Assessment, 1993);
Stephen Handehnan, "The Russian 'Mafiya'," Foreign Affairs 73 (March/April 1994), p. 83; Claire
Sterling, Thieves' World, The Threat of the New Global Network of Organized Crime (New York; Simon
& Schuster, 1994), pp. 34, 90; Mark Elliott, "Economic Crime and the Necessity of Morality," a chapter in
William Clark, ed., Economic Crime and Market Reform in the Former Soviet States (Boulder, Col.:
Westview Press, forthcoming).

'' Personal conversations in 1995-1996 with victims of car theft in Latvia and Russia as well as several
Latvian poUce officials.

'* "Russian MVD Fights Shadow Economy and Organized Crime", as heard on Radio Rossii on 13 June
1991 in an interview with Chief of the Detective Division of the Mocow Criminal Police, translated in RFE
Weekly News on 18 June 1991 by Victor Yassman

".National Drug Intelligence Center, October 1993, cited in the report "Russian Organized Crime', from
the Office of the Attorney General of the State of California, Daniel E. Lungren, (State of California:
California, 1996), March 1996, page 5.

'* "Mafia Accumulating Property", translated from Russian language broadcast of radio station "Ekho
Moskvy" on 22 April 1994, in RFE Weekly News on 26 April 1994. Quoted researchers from the Russian
Academy of Sciences.

" 'Tax Police Colonel in Corruption Scandal", translated from Russian language broadcast of NTV on 9
April 1996, in RFE Weekly News on 26 April 1994
" Trud, 18 May 1996, as reported in RFE Weekly News, "Murder Wave", 22 May 1996, by Peter Rutland.

340

^^ Komsomohkaya pravda, 24 September 1996, in RFE Weekly News of 25 September 1996 by Victor
Yassmann.

" Kommersant Daily, October 22, 1996, "Vladimir Rushaylo Took the Floor" by Dimitry Pavlov, Maksim
Varyyvdin and Mikhail Mikhaylin.

" Moscow "Izvestiya", Russian language, July 20, 1994, "Who Wields Power in Russia?".
" Baltic News Service, 1 July 1997, quoting the Latvian newspaper "Diena", on a report from
"Expert" magazine in Russia.

^* Baltic News Service, 12 June 1997, "Baltics Lagging in Human Development, U.N. Report
Indicates".

^' Baltic News Service, "Latvia Concerned About EU Report on Corruption", 3 January 1997, in
English, quoting Latvian Minister of Interior Dainis Turlais who complained that the report
gave no details and that other countries had corruption as well.

" Moscow Literaturnaya Gazeta in Russian, "RUSSIA, LATVIA: Organized Crime in Latvia
Tied to Russia : International Mafia: The Baltic Corridor",5 Mar 97, No 9, p 13 by
Tatyana Fast in an interview of former Latvian Minister of Interior Janis Adamsons.

" Moscow Literaturnaya Gazeta in Russian, "RUSSIA, LATVIA: Organized Crime in Latvia
Tied to Russia : International Mafia: The Baltic Corridor",5 Mai 97, No 9, p 13 by
Tatyana Fast in an interview of former Latvian Minister of Interior Janis Adamsons.

^' Komsomolskaysa pravda, "Baltic Smuggling Has Ties to Kremlin", in Russian, 4 July 1992, p.
2.

^' Baltic News Service, "Premier Sends Letter to President Explaining Resignation", of 20
January 1997, cited in FBIS-SOV-97-014 of 20 January 1991.

'" Baltic News Service (BNS), "Latvian PM May Consider Resignation", Daily Report, 21 May
1997. Bom 1958, Skele graduated from Latvian Agricultural Academy as mechanical
engineer in 1981. By 1991, he was also the deputy director for production of the scientific
production company STARS. In 1990, he was appointed first deputy Minister of
Agriculture and from May until September 1993, he was also the acting Minister of
Agriculture. While in this position, he also founded a series of companies which now
control the majority of food processing factories in the country and is also involved in
alcoholic beverages and cigarettes, farm property, and food markets. Further, a company
formed with contacts to the Ministry of Agriculture went bankrupt with losses of US $
10,000,000 of G-24 fimds and bank accounts in Luxembourg for the government officials.
He also acted as the Director of the Latvian Privatization Agency, Chairman of the state
Unibank and chairman of the Latvian Shipping Company. These positions followed his
work on these firms at the Privatization Agency. He is now a shareholder in these banks
and has arranged EBRD funding for these banks as well. He is now one of the wealthiest
men in the country.

" BNS, 16 May 1997, "President Discusses Corruption Charges".

" Moscow Literaturnaya Gazeta in Russian, "RUSSL\, LATVIA: Organized Crime in Latvia
Tied to Russia : International Mafia: The Baltic Corridor",5 Mar 97, No 9, p 13 by
Tatyana Fast in an interview of former Latvian Minister of Interior Janis Adamsons.

** Gertz, Bill, "The Washington Times", "Most of Russian's Biggest Banks Linked to Mob: CIA Repoit
Says Illegal Activities Spread to District", 5 December 1994, p. Al. Look for article by sherifT ••
" Simis, Konstantin, "The Corrupt Society" (New York: Simon and Schuster, 1982), pp. 83-86.

341

EMBASSY OF THE REPUBLIC OF CYPRUS

2211 R Street, N.W.

WASHINGTON, D.C. 20008

Tel: (202) 462-5772
Fax: (202) 483-6710

MEASURES TAKEN BY THE REPUBLIC OF CYPRUS
TO COMBAT AND PREVENT MONEY LAUNDERING

In view of the fact that Cyprus was mentioned during the recent hearings
of the House Banking & Financial Services Committee on money laundering in
Russia, I thought that the Committee might be interested in knowing about the
measures taken by the Government of the Republic of Cyprus to prevent and
combat money laundering.

I would like to clarify, at the outset, that Cyprus has been faced with a
unique problem caused by the continuing occupation of 37% of its territory by
Turkey and the use of that area for criminal activity. Although most of the reports
regarding money laundering refer to activities in the Turkish occupied part of
Cyprus, they, regrettably, often fail to distinguish between the Government-
controlled area and the occupied part of the island. Cyprus, therefore, has been
doubly victimized, since the country's reputation has suffered through the
association of its name with the illegitimate activities taking place in the occupied
part of the island, over which it is prevented from exercising control by the
Turkish occupation forces.

Consequently, a solution to Cyprus' political problem, would contribute to
the elimination of any such activities, since it would then be possible to
implement throughout the territory of Cyprus the strict controls and regulations
which the Government of Cyprus is applying in the Government-controlled areas
of the Republic.

The Republic of Cyprus has signed and ratified all international
Conventions aiming to combat money laundering and in 1996 it enacted the
'Prevention and Suppression of Money Laundering Activities Law' which was
adopted in line with the requirements of the Convention on Laundering, Search,
Seizure and Confiscation of the Proceeds from Crime of the Council of Europe,
as well as the relevant 1991 Council Directive of the European Union.

The new Law includes far-reaching provisions as it defines and
criminalizes laundering of proceeds from serious criminal offences, it provides for
the confiscation of proceeds from serving crime, it empowers courts to issue
freezing and restraint orders in respect of such proceeds, it empowers the courts
to order the disclosure and production of information held by any natural or legal
person related to money laundering investigations, it requires customer

342

identification and record keeping procedures, internal control systems and staff
training and it enables the registration and enforcement of foreign orders for the
freezing and confiscation of proceeds.

The new Law criminalizes money laundering not only connected with drug
dealing offences but with such serious crimes as arms trafficking, kidnapping and
extortion.

Furthermore, the Law requires that even the mere suspicion of money
laundering should also be reported to the Police or the Unit for Combating Money
Laundering and it imposes a statutory duty on every person to report any such
suspicious activities.

Banks are required also to adhere to the prescribed procedures of this
Law for customer identification, record keeping and internal reporting as well as
to ensure adequate training of their employees concerning the provisions of the
Law. They are also required to appoint properly qualified persons as compliance
officers.

The 1996 Law provides for the establishment of a Unit for Combating
Money Laundering (UCML) which is mandated to gather, classify and evaluate
information relevant to money laundering offences, conduct investigations
whenever there are reasonable grounds to believe that a laundering offence has
been committed and to issue directives for the more effective exercise of its
functions and the cooperation with its counterpart foreign units.

Moreover, the Law provides for the establishment of an Advisory Authority
Against Money Laundering, whose main task is to inform the Council of Ministers
of any measures taken, as well as of the general policy against money
laundering and to advise on any necessary additional measures.

The 1996 Law designates the Central Bank of Cyprus as one of the
bodies having supervisory authority for all persons licensed to carry out banking
business, including offshore Banking. Other such bodies are the Office of the
Attorney General and the Department of Customs.

In addition to the 1996 Law, the Central Bank of Cyprus has taken its own
measures to combat and prevent money laundering by setting strict guidelines
for all banking operations. These guidelines are based on the provisions or
recommendations of relevant international bodies such as the Basle Committee
on Banking Supervision, the European Union and the Financial Action Task
Force of the OECD.

Accordingly, all banks in Cyprus have been directed by the Central Bank
to implement customer Identification and record keeping, to exercise due
diligence, to cooperate with the Police and the UCML, to establish adequate
internal control procedures and to arrange in-house training on the prevention
and combating of money laundering, as well as the identification of all electronic
transaction dealings.

343

The Central Bank of Cyprus has for many years operated a strict
regulatory framework aimed at eliminating the misuse of the offshore sector by
criminal elements. Thus, offshore companies are required to divulge the names
of their beneficial owners, submit good bank references, prepare and submit
annual accounts to the Central Bank and file annual returns to the Central Bank.

Other measures to combat and prevent money laundering include the
setting up of a Special Drug Law Enforcement Unit that is also empowered to
investigate cases of money laundering. The Special Drug Unit of the Customs
Department is also empowered to investigate money laundering cases, in close
cooperation with the UCML and the Police Drug Law Enforcement Unit.

Cypriot authorities have extended full cooperation to all international
bodies and organizations with a view to contributing to the mutual effort of
combating money laundering.

Cyprus' advanced intelligence and enforcement services make a
significant contribution to the international fight against this phenomenon. As

stated in a US Senate Report (104"^ Congress) " In addition to Cyprus

being needed as a strategic point to support our Middle East effort, it has also
become a strategic point for US involvement in several areas of intemational
concern, such as counter terronst measures, narcotics trafficking, counterfeiting,
money laundering and intemational bank frauds. The Cyprus national police
force has been very cooperative and helpful in our intemational lav\/ enforcement
efforts ...."

With this in mind, Cyprus has concluded a number of bilateral agreements
with a number of countries on judicial/legal cooperation. Cyprus also cooperates
closely with:

i) The Community of Drug Liaison Officers: Drug Liaison officers from 12
countries are stationed in Cyprus and cooperate closely with the Cypriot
authorities in combating money laundering.

ii) Interpol: The Cyprus Police Force has developed close cooperation with
Interpol for combating all forms of criminal activities.

iii) The World Customs Organization: Cyprus is a member of the WCO. The
Customs Department has established a Special intelligence Unit that cooperates
closely with the WCO for the prevention and combating of money laundering.

Iv) Financial Action Task Force (FATF) of the OECD: FATF is the only
international body dealing exclusively with money laundering. Cyprus
cooperates very closely with this body in order to strengthen the effort against
money laundering.

It should be stressed In this regard that, following an assessment of
the prevailing situation in Cyprus as regards the legal framework and the

344

enforcement mechanisms against money laundering, the FATF decided in
1998 to declassify Cyprus as a priority country in the external relations
program of its Task Force.

v) Council of Europe: Cyprus is a member of the Select Committee of
Experts on the Evaluation of Anti-Money Laundering Measures of the Council of
Europe (PC-R-EU) which is mandated to evaluate the measures against money
laundering taken by the member-States of the Council which are not FATF
members.

Cyprus itself proposed to the PC-R-EU to be included in the first group of
countries to be evaluated. An evaluation mission took place in April 1998 which
concluded in its Report (June '98) that ".... Cyprus is to be congratulated on
the very comprehensive legal framework that has been put to place. It
compares favorably with others in place in larger countries that are
members of the FATF. Moreover, as has already been indicated, its
impressive legal structure, based on existing international anti-money
laundering standards is significantly in advance of any other country in its
geographic sub-region".

vi) Cooperation with Financial Intelligence Units (FlUS): The Cypriot
authorities work very closely with their counterparts in other countries, including
the US, for the exchange of information and the investigation of crimes, including
money laundering.

A number of delegations from third countries have visited Cyprus in order
to be briefed on the efforts of Cyprus to combat money laundering, including a
team of experts from the US (Money Laundering Assessment Team) which
visited Cyprus in April 1997, and a team of experts from the FATF which visited
Cyprus in September 1997. Both teams expressed their satisfaction for the
work being done in Cyprus against money laundering and the cooperation
offered by Cyprus at the international level.

The work done by the Cypriot authorities and their continuing efforts in this
field have also been recognized by the US authorities in the current International
Narcotics Strategy Report, as well as by the Select Committee on the Evaluation
of Anti-Money Laundering Measures of the Council of Europe mentioned earlier,
which found that "there is an important discrepancy between reality and the
rumors, absolutely in the Cypriot Government's favor".

In view of the above it is evident that Cyprus has adopted all necessary
legislative measures to keep laundered funds out of its structures and to
contribute to the international efforts for the suppression of this crime.

Although Cyprus may be vulnerable to money laundering, this vulnerability
is not unique to Cyprus alone. Realizing the dangers it faces, the Cypriot
authorities are developing full cooperation with foreign countries and international
organizations in fighting this phenomenon. The goal is common and its

345

accomplishments demand mutual effort. International cooperation is, therefore,
essential.

The Government of the Republic of Cyprus emphasizes in the most
emphatic way that it is ready to discuss and adopt any additional legislative and
regulatory measures, in force in other countries, which have contributed
effectively to the elimination of money laundering.

It is also ready to cooperate with the US and any other Government and
body with a view to ensuring that our world is rid of such criminal activities For
this purpose, it stands ready to investigate any specific queries, allegations,
suspicions or complaints concerning money laundering practices on the island
and to work closely with ail the relevant international bodies towards this end,
because it fully realizes that in a country of Cyprus' size, with 37% of its territory
under military occupation, there is no margin for allowing criminal activity of any
kind to infiltrate the island's financial and social fabric.

October 1999

APPENDIX

July 22, 1999

(346)

347

CURRENCY

Committee on Banking
and Financial Services

James A. lA'acli, Chairman

For Immediate Release:
Wednesday, September 22, 1999

Contact: David Runliel or
Andrew Parmentier (202) 226-0471

Opening Statement

Of Rep. James A. Leach

Chairman, House Banldng and Financial Services Committee

Hearing on Russian Money Laundering

Today we begin another of our hearings on money laundering and corruption in Russia.

For much of this century there has been a philosophic contest between communism and
capitalism, which clearly has been won by capitalism. Now we have a contest between capitalbm
under the rule of law and capitalism without law.

Among the weaknesses of communism was the theory of economic determinism, which implicitly
denied individual accountability, and the precept of class struggle which Karl Marx defined as
extending from feudal to capitalist times.

The irony is that in the wake of the cratering of communism there are un-Marxist elements of
class concern in today's Russia. If one believes, as I do, that no society can be sustained if a few
have all the assets and the many are robbed not only of public funds but individual opportunity,
public accountability in today's Russia requires that the people hold kleptocrats to account for
social thefL

In this regard, we in the West have an obligation to cease standing up and identifying with the
current government and unite instead in concern for the Russian people. As I suggested yesterday,
our aid should be mlcro-ized and decentralized.

Macro-economic polices utilizing the International Monetary Fund that provide aid to a central
bank which then disburses funds to private banks which, in turn, divert dollars, marks and
pounds to the West instead of providing for investment in business activities in Russia to create
Jobs for the Russian people are indefensible.

But, it would be folly to isolate or walk away from Russia. The stakes are too high, for them and
at.

In this unprecedented circnnutance, I believe America should de-emphasize reliance on IMF
lending to Russia and lead instead in seeking greater utilization of the other principal
iotemational financial histitution - the World Bank - in assisting the Russian transition to
democracy and free market

Priority should be given to establishing people-centered community banks and credit unions and
expanding branches of Western institutions willing to commit to extending credit to legitimate

Russian entreprenenrs or outside investors who bring Jobs and technology to Russia.

348

Opening Statement:

Spencer Bachus

Russian Money Laundering

We in Congress have an obligation to make sure that U.S. taxpayer
money is not wasted. These hearings are designed to help answer
some of the many questions that are being aslced about Russian
money laundering at American banks, about possible misuse of
IMF funds, and about wide-spread corruption in Russian
businesses and government.

It is imperative that we find the right answers to these problems,
because it is in our vital national interest that Russia not fall off the
map of legitimate sovereign partners in the global community.
The heritage of hundreds of years under corrupt regimes under the
Russian Tsars and nearly a hundred years under Communist
hegemony have left an enduring mark.

These regimes created an environment that is tolerant and
protective of corruption, an all pervasive type of corruption that
affects the smallest purchase of a car or appliance, or the most
sophisticated million dollar business transaction. Corruption this
widespread is only possible when tolerated or protected by the
highest levels of enforcement and government officials.

349

So we should not turn a blind eye to the corruption that is evident
in this fledgling democracy. Nor should we give up and leave
Russia to drift back into totalitarianism. What we should do is
evaluate their mistakes, and ours, to redesign our strategic goals
and our methods to reach these goals.

Russia represents a challenge to the belief that democracy and free
markets are best suited to serve the needs and uphold the dignity of
the human person and society. Though we in America only share a
small part of the responsibility, we must do whatever we can to
encourage the development of the rule of law, of respect for private
property rights, and truly competitive and open markets.

350

(J^/I*c^

Opening Statement of Rep. Ron Paul

,. Hearings on Russian Money Laundering

House Committee on Banking and Financial Services

September 22, 1999

Chairman Leach, ranking member LaFalce, thank you for holding a hearing so quickly in
response to the reports of scandal regarding the Bank of New York and allegations of laundering
of International Monetary Fund payments to Russia.

An examination of the objective facts illustrates clearly that our current approach regarding
money laundering has failed. It also questions the wisdom of more unfunded government
reporting requirements— and attacks on consumer privacy such as the Know Your Customer
proposal (still required under the Federal Reserve's compliance manual of the Bank Secrecy Act
despite overwhelming public opposition).

Overwhelmed with millions of bank forms required to detect money laundering, U.S. law
enforcement oCBcials did not act for months on British leads (initiated by a kidnapping charge) of
money laundering at the Bank of New Yoric The bank did not file any Suspicious Activity
Reports on the questionable accounts until after they were notified that the accounts were under
law enforcement investigation.

Given that the IMF claims not to know -what happened to the money and admits that the Russian
central bank lied to them, we should not allow the IMF to hide behind the shallow defense that
there is no evidence of wrongdoing. When using taxpayer funds, we must demand a higher
standard: IMF, World Bank and U.S. Treasury officials should provide evidence that no public
funds were siphoned off and that no officials profited fi'om the conversion of the high-yield
Russian GKO bonds into dollars just days before the default or fi'om other public fimds.

When Allan Meltzer, head of the congressional commission on the IMF, asked recently whether
the use of IMF funds could be traced. Joint Economic Committee staffer Chris Frenze replied
that someone "would have to be rather an incompetent criminal to conduct their affidrs in such a
way that it could be traced." We cannot justify taxpayer money going to an organization with
such a lack of accountability.

In the (Russian) St. Petersburg Times ("Skuiatov Says IMF Billions Sold on the Sly," September
17, 1999), Russian Prosecutor General Yury Skuratov charged in an interview that the IMF
money funded profitable insider trading. He quoted from a memo President Yelstin refused to
accept, "An analysis of the Central Bank's use of the accoimt v/bsK the IMF stabilization loan
was deposited showed that $4.4 billion was sold from that account between July 23, 1998 and
August 17, 1998. Of that money, $3.9 billion was sold directly to Russian and foreign banks,
bypassing the trading session at the Moscow Interbank Currency Exchange." He claimed only
$571 million went to support the ruble.

351

I am concerned that Treasury Secretary Larry Summers cites Anders Aslund, senior associate at
the Carnegie Endowment for International Peace, given his controversial views on the benefits of
encouraging bribei^! He clearly states in his article "Russia's Collapse" in the current issue of
Foreign Affairs, "As Andrei Shleifer of Harvard and Robert W. Vishny of the University of
Chicago have observed, the best way of fighting corruption is encouraging competition in
bribery [emphasis added]. August's financial crisis was a logical outcome of the oligarchs' war,
as they tried to maintain their high and dubious incomes by any means. In the end, the Russian
state could no longer deliver enough cash to satisfy their ravenous appetites. The crash radically
reduced the amount of money that could be made on the state~and thus the power of the corrupt
businessmen."

George Washington University professor Janine Wedel has warned about the appearance of
corruption surrounding Andrei Shleifer heading the Harvard Institute for International
Development ("The Harvard Boys Do Russia," the Nation, June 1, 1998) and the efifects of
collusion in her book Collision and Collusion: The Strange Case of Western Aid to Eastern
Europe 1989-1998. It seems the best course for avoiding any perception problems would be
more transparency of the activities of U.S. officials.

Our IMF/Treasury policies are not only a waste of taxpayer dollars, they are often
coimterproductive. "German officials both in and out of office are infuriated by the manner in
which the U.S. Treasiuy rewrites history to paper over its own colossal blimders mainly to
service financial interests on Wall Street," writes Klaus C. Engelen, "American Arrogance" in
the current issue of The International Economy. He quotes Jilrgen Stark, deputy to the
Bimdesbank president, as confi'onting IMF Managing Director Michel Camdessus, "I do not
concur with the argimient that exceptionally high IMF financing is justified in financial crisis
situations with systemic or contagion risks...Starting with the Mexican crisis in 1994/95, [IMF
financing policy] might have contributed to moral hazard and encouraged reckless financial
behavior, both by the private sector and by governments."

Economists Kurt Schuler and George A. Selgin ("Replacing Potemkin Capitalism: Russia's Need
for a Free-Market Financial System, Cato Institute Policy Analysis No. 348, June 7, 1999) point
out, "Approaches that do not eliminate Russia's socialist monetary institutions are unlikely to put
the monetary system on a sotmd basis for the long term" and explain that the Russian central
bank, one of the world's oldest, directs credit to particular favored firms though the banking
system and that past loans to the government served as a drug helping to maintain an unhealthy
system. We need to stop fimding socialist institutions impeding economic growth and not
"encourage competition in bribery."

I agree with the Investor's Business Daily editorial on September 1, 1999, "Get Rid Of The
IMF," when they said, "The only way to stop [the IMF] from sucking up scarce resources to
waste on favored nations is to end it. Some in Washington advocate reforming the IMF. But it's
useless to reform an outfit wdth such a poor record. Abolish it now." Passage of HR 1 147, the
Bretton Woods Sunset act is important and tirgently needed as the best way to prevent more
corruption.

352

loveator'aBusinesaDa^y S^«.v»>W^ j. (9*^^

EDITORIALS

Get Rid Of The IMF

Word that cash from the International Monetary Fund's
bailout might be part of the Kussian money-laundering
Kheme has put fund officials on the defensive. They
should be. The IMF has long outlived its usefulness and should be
abolished.

Ifi bard to defend the IMFs reconL
It hM WRcked ecaaomies. It's propped
np ihufi who get tbeir Hands on iu
lout, lu policies have toppled covem-
ncAt. An in (he name of wund
canency ud fiscal policies.

We'fc now learning the IMFs
ecoumic analyses are anything but
toaad. In fact, it seenu the IMFcooks
the oumben when it wants to make'
loatt.

A new report from the Heritage
Fomiation shows that the IMF has
overestiraaled growth in developing
naiiont for the last 27 straight yean. Is
the fund being optimistic because it
pRMmei iu interventions will help the
ecoaooies in those countries?

The HdiUge report concludes (hat
it it. It nota that the size oftheerron
trows u the degree of IMF aid
iaoeases. For every additional SI
bilton in aid to a Western Hemisphere
recipieal, its forecast error increased
byO. 17 percenuge point.

Errors were similar'in African and
Asian forecasts.

Why would the IMF do that? Well,
its forecasts have a large impact on its
fuoding. As kwg as fund ofTiciab can
cotvince lawmaken in its member
nations that iu bailouu will work, it
cat rake in the cash — $18 billion last
yesf from the U.S.. the largest contrib-
ulflf. Indeed, why would any country
fund a program that would have little
to 10 beneficial effect?

And then what would those highly
paid international bureaucrau do
when their raison d'etre ceases to exist?
Yes. the IMF has a strong incentive to
nuke promising forecasts.

For a real-time example, look at
Russia, just last Sunday the IMF said
Russia's economy "is better thaa
expected." The prooouncemeat came a
month ahead of the next S640 million
payment of a S4.S biOion IMF bailout
of the Russian economy, b the IMF
embellishing for the sake of the next
payment?

Surely, it is. The Russian economy
has been repeatedly bailed out The
IMF alone has doled out S20 billion to
Russia over the last seven years.

Yet the economy has retreated every
year of the last 10, except 1997. when it
grew by 0.4%.

It doesn't look like it's going to get
better. As much as SIO billion illegally
leaves the country every year. Though
it has outwardly cast off communism.
Russia hasn't made the transition to a
market economy. It's crippled by
mobsters, corrupt bureaucrau and an
inept industrial sector still controlled
by central planners.

Rep. Jim Leach, R-lowa, chairman
of the House Banking and Financial
Services GNnmittee, says Russia "ap-
pears to be an anarchist kieptocracy"
that has "no hope of economic pro-
gress unless the social plundering is
hailed."

Russia isn't the only country
charged with misappropriating IMF
cash. Critics have long said large
portions of the fund's bailouU are
never used as intended. Instead, the aid
ends up in the hands of criminals and
the politically connected (in many
countries, these two are synonomous).

So it's not surprising that the SIO

billioa Russian hundering scaodal
that surfaced two weeks ago is said to
include IMF bailout money.

Fund oiiicials have — ptcdicuhly
— denied it But their record ehewbere
is abysmal, Ian Vasqnez at the Calo
Institute says doaens of countries have
beea receiviag IMF aid for decades.
Their economies never improve u they
subsist year to year on one fund loaa
afteranother.

Loan addicts. Vasquez calls them.

The IMF was esublisbed in 1944 to
police the international fixed exdunge
rate system. That coUafned in 1971
•nd wu replaced with a floating-rate
method. For nearly 25 yean the IMF
provided advice to iu member coun-
tries and made relatively small loans to
economically troubled countria.

By I99S. though, it had completed
iu transition to an international SanU
Claus, iu toy sack bulging with baU-
ouU.

Clearly, the IMF has outlived iu
usefubiess. It has little accounubiUty.
It deals in secret. Iu bailouu tdl
cowboy investon that there's no risk
involved in bad decisions. And iu view
of proper fiscal poKdes sends econ-
omies further on the path to niio.

If the IMF were a private lender, it
would have failed by now. The only
way to stop it from sucking up scarce
resources to waste on favored nations
is to end it. Some in Washington
advocate reforming the IMF. But it's
useless to reform an outfit with such a
poor record. Abolish it now.

New IBOEHNaH Addresses

Wi encourage feedback. Ybu can reach
the editorial department by writing ta

■ IBO Ijeltera To The Editor
126SS Beatrice Si

Los Angeles, CA 90066

• Via e^nai^; ibdlettersOinvestors.cam

• (Letten To The Editor only) or
ibdnewsOinvestors.com (other
corresponderice)

■ Vla(ax:pia)S77-73S0

353

VV/l- lr>- L>l-:v^U -N

DANGFR

ONLY

DANGER

\AA

#501, Friday, September 17, 1999
N&tm horn Rutaim in En^hh —

BUSINESS

Skuratov Says IMF Billions Sold on the Sly

By Natalya Shulyakovskaya

STAFF WRITER

Photo by Igor Tabakov

MOSCOW - Almost $4 billion of last year's IMF
bailout went straight back out of Russia and into
the now f^ous Bank of New York as the Central
Bank sold dollars to banks eager to flee the
doomed treasury bill maricet, Russia's suspended
prosecutor genraral told The St Petersburg Times.

And that money was sold directly to those banks,
bypassing the currency markets, Prosecutor
General Yury Skuratov said in an interview
Monday.

Last July, the International Monetary Fund put togeAer a S22.6 billion bailout package
aimed at restoring confidence in the Russian economy.

Skuratov's revelations make it clearer than ever that most of that money instead went to
bail out a handful of well-connected banks as they fled Russia's ill-fated market for
ruble-denominated short-term treasury bills, known as GKOs.

In a memo that Skuratov prepared for President Boris Yeltsin but was never able to
submit to him, he detailed where much of the IMPs $4.8 billion first instaUment - sent
to Russia on July 23, 1998 - went durmg the hectic 25 days that were left before
Moscow's financial armageddon.

"An analysis of the Central Bank's use of the account where the IMF stabilization loan
was deposited showed that S4.4 billion was sold fix>m that account between July 23,
1998 and Aug. 17, 1998. Of that money, S3.9 billion was sold directly to Russian and
foreign banks, bypassing the trading session at the Moscow Interbank Currency
^change. And only $471 million went to support the ruble exchange rate on MICEX.
Another $100 million went for intervention on o&er [currency] exchanges."

That $3.9 billion was used bv 18 large banks to convert their GKOs into dollars just
days befbre Russia defiuihed on the short term bonds - which had been paying yields
as hi^ as 200 percent, he said.

The banks bought the doUan from the Central Bank widi rubles they received from the
sale of their GKOs.

And it seems it was shipped out of Russia wi& the help of the Bank of New York.

"These operations between the correspondent accounts of the Central Bank and these
banks were done with die involvement of the Bank of New York," Skuratov said.

The bailout cash in bet never even made it to Russia, Skuratov said.

Hie money went from the IMF to the Central Bank's U.S. account and then to Russian

354

banks' Bank of New Yoik accounts, with the Russian banks paying for the dollars by
dqMsiting rubles with die Central Bank in Moscow.

Hie moam was sold through special arrangements that the Central Bank had already
struck with m^or banks operatmg on the Riissian market, under which they could
purchase hard currency directly m>m the Central Bank.

"We got an explanation that the deal was justified because it was lifting the pressure
from the ruble by satisfying the banks' dollar needs even before diey turned to the
exchange," Skuiatov said.

However, he criticized the Central Bank for selling the IMF bailout cash through those
deals.

"I cannot understand why only S47 1 million went to support the ruble, and the rest -
without even landing m Russia - was sold to commercial banks."

Skuratov was unable to say at what rate the dollars had been sold. However, the
PricewaterfaouseCoopers report into the Central Bank's use of the July bailout shoes
that banks were able to buy dollars from the Central Bank at an average rate of 6.33
during July and August 1998, while the average MICEX rate for the same period was
6.97.

"There was a list of 18 banks, nearly 20. All of our major banks were on that list,
SBS-Agro was listed as was Uneximbank," Skuratov said. He said he could not reveal
die entire list

The Bank of New York is now die subject of a probe into whedier or not some S4.2
billion to SIO billion diat moved dirough its accounts between October 1998 and May
1999 mcluded ill-gotten gains being "washed clean" by Russian mobsters.

Investigators' suspicions regandmg money ctHnmg from Russia were reportedly fueled
by a surge in capital flight from diat country to die United States in die wake of last
year's crash, according to a report by The New York Tones last mondi.

The Bank of New York has denied any nnpropriety regarding its business dealings
with Russia. The bank, one of America's oldest and laraest, lud built a dominant
position in servicing Riissian customers wanting to do business in or through the
United States.

Skuratov opened an investigation last September into die Central Bank's role in the
August financial crash. That investigation was one of several that have ground to a halt
since the Krem lin succeeded in efmrtively pushing die Prosecutor General out of
ofiBce earlier this year.

He first submitted his resignation Feb. I, after a meeting widi dien-head of die
presidential administration Nikolai Bonfyuzha, Skuratov said.

Bordyuzha pressured him at that meeting to stop his investigations into Swiss-based
contractor Mabetex, he added.

Mabetex has since become the center of a wave of allegations that top Kremlin figures
• inchiding Yehsin, his two daughters, and the head of the presidential administration,
Pavel Borodin • accepted bribes from the firm in return for hicrative contracts to help
renovate dw Kremlin palaces.

When he first began mvestigating Mabetex, Skuratov keM die probe secret Only he
and ooe other investigator at die Prosecutor GeneraTs Office knew about die probe. He
declined to kfcntify that mvestigator.

The first person that he informed outside of his own office was Yevgeny Primakov.
Skuratov went to Primakov soon after he was appointed prime minister last &U. Soon
after he was confirmed by the State Duma, Primakov had declared a tough stand on
cofiuption.

Regarding die investigation into the IMF money, one mtyor question left unanswered
was wheOer or not die flood of cash he had traced as far as New Yoik had been die
resuh of insider tradhig on GKOs, Skuratov said.

355

"Some of those individuals who got rid of their GKOs right before the August financial
crisis turned their GKOs into hard currency and funnelMit to the Bank of New York,"
be said.

Earlier this month, Skuratov said that former First Deputy Prime Minister Anatoly
Chubais was among 780 former and current officials under investigation on suspicion
of insider trading in GKOs.

Chubais has denied ever using inside knowledge to trade GKOs. Furthermore, he has
said diat he only ever traded in the debt instruments when he was a private citizen and
that he in fact lost money on his GKO holdings.

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356

Congresswoman

Marge Roukema

Fifth District — New Jersey

2469 Rayburn House Office Building (202) 225-4465

Washington, D.C. 20515 September 22, 1999

Roukema Statement on Russian Money Laundering

Following is the opening statement of House Financial Institutions Committee Chairwoman
Marge Roukema, R-N.J. -5th, as prepared for delivery at today 's Banking Committee
hearing on Russian money laundering.

First of all, I want to apologize for missing most of the first day of these very important
hearings on money laundering. I was only able to hear the third panel yesterday, due to my
late arrival from New Jersey.

As many of you know. Hurricane Floyd caused significant flooding damage in northern
New Jersey. I, along with Governor Whitman, met with the administrator of FEMA on
Tuesday morning to survey the flood damage in my congressional district. Unfortunately
the damage which has been suffered in Bergen and Sussex Counties is quite extensive.

Money laundering is a serious problem which demands our attention. I held two days of
hearings on money laundering in April. Based on those hearings — as well as recent press
reports — I am convinced our money laundering laws need to be tightened up. I have
proposed H.R. 240 — the Bulk Cash Smuggling Act of 1999, which would criminalize the
large and growing problem of billions of dollars being smuggled into and out of the United
States every year. In addition, I am proud to have cosponsored the Foreign Money
Laundering Deterrence and Anticorruption Act, which Mr. Leach dropped in yesterday.
That bill will address serious problems: increasing the foreign crimes which are covered by
our money laundering laws, prohibiting certain types of offshore banks from operating in
the U.S. and requiring disclosure of the identity of foreign account holders. These are
important reforms I support strongly.

I will be listening carefully today to our witnesses to determine whether there are other
items — such as including securities fraud and tax fraud in the list of foreign crimes
covered by our money laundering laws — which should be added to money laundering
legislation. In addition, I believe we need to look at making sure that law enforcement has
sufficient resources — money, manpower and equipment — to do the job we expect.
Adequate funding for the Customs Service and law enforcement agencies to fight money
laundering should be examined and in that context we should look at whether the Treasury
and Justice Asset Forfeiture Trust Funds should be used.

Mr. Chairman, I am looking forward to hearing from our witnesses. I congratulate you for
holding these very important hearings and look forward to helping you and others move
money-laundering legislation through the Congress this year.

— 30 —

357

Congresswoman Maxine Waters

Statement

September 22, 1999

House Banking and Financial Services Committee

Bank of New York

Money laundering has become an indispensable element of drug trafficking and
other criminal activities as organized crime has expanded its economic influence both
domestically and internationally. According to the United Nation's 1999 Human
Development Report, the world's organized criminals have a greater economic output
than all but three of the world's national economies. The increase in drug profits is due
largely to the ability of drug traffickers to launder large sums of money between
continents through our financial institutions.

Money laundering provides drug traffickers with the ability to "cleanse" monetary
proceeds obtained through illegal activities into fiinds with a seemingly legal source. It is
the means through which criminals are able to disguise assets and use them without
detection of the illegal activity that produced them.

According to a 1998 report by the Financial Crimes Enforcement Network, drug
profits have injected an estimated $100 billion into the financial systems of the United
States. Additionally, money laundering is a way for drug dealers to manipulate the
financial systems of the global market in an effort to help continue their illicit activities.
My concern today is with the reporting regulations required by current anti-money
laundering laws and why these laws did not prevent the monumental money laundering
that took place at the Bank of New York.

Several laws currently exist to address the problems of money laundering. The
Bank Secrecy Act of 1970 "imposes recordkeeping and reporting requirements on
financial institutions in order to supply law enforcement with evidence of financial
transactions."

The Money Laundering Control Act of 1986 strengthens the Bank Secrecy Act
requirements by creating criminal liability for individuals who conduct monetary
transactions knowing, or with reason to know, that the proceeds involved were obtained
fi-om unlawful activity.

The Money Laundering Suppression Act of 1994, which amended the Bank
Secrecy Act, mandates a liberalization of the "rules for exemption of transactions fi-om
the currency transaction reporting requirement, in an effort to reduce the number of
Currency Transaction Report (CTR) forms filed by at least 30%. Additionally, The
Money Laundering Suppression Act allows the Department of Treasury to determine
which agency will be the sole entity to receive reports of suspicious transactions fi-om
financial institutions. These laws have not been able to address the evolving and complex
problems that money laundering and drug trafficking present.

358

A recent article in the Wall Street Journal titled "Prosecution Faces Hurdles in
Bank Case" highlights the need for stronger anti-money laundering laws. The story
details the events in the Bank of New York money laundering case but it also points to
the case of Raul Salinas and Citibank.

The story states that, "an investigation into Citigroup Inc's Citibank unit's
handling of accounts by.. .Raul Salinas has languished for nearly four years. Citibank,
which helped Mr. Salinas move tens of millions of dollars out of Mexico, hasn't been
charged with any crime and has denied wrongdoing."

Raul Salinas, a convicted criminal, used a United States fmancial institution to
launder huge drug profits and both he and the fmancial institution have escaped
prosecution in the United States. The same can be said for Semyon Mogilovich, a
reported drug trafficker and money launderer whose illegal profits flowed into the United
States, and the Bank of New York.

359

i^jeparfment of i[u0ttte

STATEMENT

JAMES K. ROBINSON

ASSISTANT ATTORNEY GENERAL

CRIMINAL DIVISION

BEFORE THE
C<»4MITTEE ON BANKING AND FINANCIAL SERVICES
UNITED STATES HOUSE OF REPRESENTATIVES

CONCERNING
THE NATURE AND THREAT OF RUSSIAN ORGANIZED CRIME

PRESENTED ON
SEPTEMBER 22, 1999

360

' ' '"' Testimony of James Robinson

September 22, 1999

Chainnan Leach, Ranking Member LaFalce, members of the Committee, thank you for the
opportunity to discuss the nature and scope of the threat posed by Russian organized crime
groups and the steps that the Department of Justice is taking to combat that threat. This morning
I intend to give a brief overview of the problem of organized crime in the United States emanating
from the former Soviet Union and some of the measures on which we in law enforcement have
been working to combat international organized crime in general and Russian organized crime in
particular. In this context I will discuss, albeit necessarily briefly, some of the allegations that
have appeared in the media regarding possible money laundering at the Bank of New York.
Finally, I will close with some suggestions for legislative action which would help us in our
continuing efforts to respond to international crime, especially money laundering.

As stated in the Chairman's letter inviting us here today, I know that you are all interested
in the recent allegations that have appeared in the press involving possible Russian money
laundering at the Bank of New York. However, as the Chairman recognized and agreed with us
prior to today's testimony, it would potentially prejudice the criminal investigation to discuss the
details of that investigation. While I will try to give you some idea of the structure of that
investigation, I will not be able to disclose the details of the investigation or what it has uncovered
so&r.
Background - Scope of the Problem

The roots of organized crime in Russia reach back to the days of the Soviet Union and
even back to Imperial Russia. Among the criminals incarcerated in the vast Soviet prison system.

361

certain hardened criminals who won the respect and obedience of their fellow inmates were
termed "thieves in law." The "thieves in law" formed a loose organization across the criminal
element in Russian cities, bound together more by mutual respect than by any rigid organizational
structure.

Since the fall of the Soviet Union, Russian criminal groups have become more open and
more organized. We have identified several dozen fairiy well-organized crime groups operating in
Russia and other countries of the former Soviet Union. For convenience I will refer collectively
to these groups as "Russian organized crime" although in fact they originate and often operate
simultaneously in many countries of the former Soviet bloc. Their activities run the gamut of
traditional organized crime activities, from protection rackets to prostitution to white collar fraud
to extortion to murder for hire. These groups have a much more hierarchical structure than the
thieves in law, vAth ordinary members assigned to "brigades" whose leaders in turn answer to the
bosses of the organization. Some of these groups have hundreds of members.

Russian organized crime groups have seized upon the opportunities offered by Russia's
brand of "Wild West" capitalism, and they have in some cases forged close ties with corrupt
Russian businessmen. In addition, organized crime groups in Russia have been implicated in the
corruption of current and former Russian government officials, a problem that is certainly not
unique to Russia but that appears to be a serious problem there. Russian organized crime groups
provide corrupt businessmen and government officials with protection, muscle, assassination
teams and lines of communication to other groups of criminals, government officials and
businessmen The president's International Crime Control Strategy of May of last year
recognized that:

362

Increasingly powerful organized crime groups in Russia, the other Newly Independent
States of the former Soviet Union (NIS), and Central and Eastern Europe have infiltrated
many key industries. These syndicates have demonstrated a willingness to use violence,
corruption and other illicit tactics to maintain and expand their criminal empires.

I think it is fair to say that organized crime groups in Russia play a direct or indirect role in much

of the criminal activity that unfortunately pervades almost all aspects of Russian life and society

today.

Russian organized crime is beginning to make itself felt abroad as well. At the present
time much of the so-called "Russian" organized crime in the U.S. is being disrupted through our
proactive investigations and prosecutions, or is at best organized only at.the local level.
However, we are beginning to see evidence that the larger Russian organized crime groups in the
former Soviet Union are deliberately extending the scope of their illegal activities to other
countries including the United States, as well as to Europe and a variety of offshore money
centers.

Of particular interest to today's discussion is the fact that Russian organized crime groups
may be playing a role in the massive outflow of capital from the former Soviet Union. Allow me
to explain. We know that, since the collapse of the Soviet Union, billions of dollars have flowed
out of Russia every year to foreign bank accounts. These outflows resist comprehensive analysis.
Some of the activity may result from Russian individuals and businesses sending their legitimate
assets abroad for safe keeping, or fl-om their conducting business with western companies and
paying for western goods. Neither of these activities are perse illegal under U.S. law. However,
this activity could violate Russian currency, tax, or other laws.

Russian organized crime groups play two important roles in this capital flight out of

363

Russia. First, Russian organized crime groups use western financial institutions to launder the
proceeds of their own illegal activities in Russia. Second, we believe that Russian organized
crime groups may assist Russian businesses and individuals to move their own assets out of
Russia in a manner that evades the scrutiny of Russian law enforcement and tax officials. Both of
these forms of activity are extremely dangerous in that they enhance the power of Russian
organized crime and weaken the authority of and respect for the law in Russia. Furthermore, the
flow into the U.S. and other countries of large amounts of Russian money connected with illegal
activities threatens to undermine and/or corrupt financial institutions and markets in these
countries. We do not want to become the world's repository of foreign criminal proceeds.

Before I detail our strategy against Russian money laundering and Russian organized
crime generally, I would like to make a point about the difficulties that we face in prosecuting
Russian organized crime money laundering cases of this sort in the U.S. In order to prove a
charge of money laundering under federal law, one of the elements we must allege and prove
beyond a reasonable doubt is that at least one of the Specified Unlawful Activities (SUAs) listed
in the money laundering statutes. Title 18, United States Code, Sections 1956 and 1957, gave rise
to the illegal proceeds. The money laundering statute lists dozens of federal crimes which can
serve as the predicate SUA, and we have found the money laundering laws to be powerful tools
for attacking organized crime activity occurring within the U.S.

However, only a very limited number of foreign offenses, namely: trafficking in narcotics,
nnirder, kidnaping, robbeiy, extortion, destruction of property by means of explosives, and fraud
against a foreign bank, qualify as SUA's under the money laundering statute. Unless we can
prove that the funds in question resulted from one of these veiy limited list of overseas illegal

364

activities, we cannot bring U.S. money laundering charges against the people who moved the
money into the U.S. So, for example, under current law, we would be precluded from bringing
money laundering charges in a situation where a conxipt foreign government ofBcial embezzled
foreign government funds and laundered them through a U.S. bank. In such situations, of course,
we also consider the possibility of bringing other federal charges which may apply to the activity,
such as the interstate transportation of stolen property.

As a practical matter, our prosecutions of possible Russian money laundering have also
been hampered by the considerable difficulty in obtaining evidence from Russia and other
countries that would show these funds to have been generated by the particular offenses specified
in the money laundering statutes. This is a continuing problem where we are constantly trying to
improve our cooperation with other countries. Despite these difficulties, we continue to
investigate vigorously signs of suspicious financial activity in our banks emanating from former
Soviet bloc countries.
Strategy

Our strategy in attacking Russian organized crime is embedded in the president's
comprehensive International Crime Control Strategy issued in May of 1998. That strat^y, in
turn, derives from Presidential Decision Directive 42, which designated international organized
crime as a threat to national security, and in which the president ordered U.S. law enforcement,
diplomatic and intelligence agencies to intensify their international organized cnme-fighting
efforts. The International Crime Control Strategy sets out eight broad goals, such as countering
international financial crime and responding to emerging threats such as high-tech and computer-
related crime, and proposes various steps to achieve them, including possible new legislative

365

provisions.

In the area of international organized crime the Department has worked to consult and
coordinate more closely with other agencies, including the Departments of State and Treasuiy and
the intelligence community, to assess the threat posed by particular organized crime groups and
develop long-term strategies to combat those groups. One aspect of this cooperation is the
writing of the classified comprehensive threat assessment called for in the International Crime
Control Strategy, which is the joint product of the intelligence and law enforcement agencies. In
general, the Department of Justice has recognized that other organs of the executive branch have
extensive experience and a wealth of information on overseas crime and law enforcement issues,
and we are moving to take full advantage of this resource.

In addition, the Department and other law enforcement agencies are aggressively
expanding our own presence in other countries and building new relationships with foreign
governments. U.S. law enforcement officials posted overseas work closely with foreign
counterparts to investigate crimes against Americans and American businesses committed
overseas. The FBI has 35 overseas offices and is considering establishing several new offices.

To complement the increasing number of U.S. law enforcement personnel overseas, the
Department of Justice also is seeking to augment its cadre of overseas attorneys. Their role
includes facilitating requests for mutual legal assistance and extradition, providing substantive
legal guidance on international law enforcement and treaty matters, and increasing cooperation
between U.S. and foreign prosecutors. Currently, the Department has attorneys in Bmssds,
Paris, Rome, Mexico City, Geneva and London. In addition, the Department has stationed
Resident Legal Advisors, who provide training and technical assistance to foreign prosecuton.

366

judges and police in a number of other countries, including Russia, Ukraine, Latvia and Georgia.

These measures complement an aggressive policy of investigating and prosecuting Russian
organized crime activity in the United States. As of December 1998, the FBI alone had
approximately 260 pending investigations targeting Russian and Eastern European criminal
enterprises. The cases resulting from these investigations are prosecuted by highly experienced
prosecutors in the twenty-four Organized Crime Strike Forces attached to U.S. Attorneys Offices
around the nation. The Organized Crime and Racketeering Section in the Criminal Division in
Washington coordinates both our investigative and prosecution efforts.

Our work in this area has already scored some notable successes, as in the conviction in
1996 on extortion charges in Brooklyn (jf Vyacheslav Kirillovich Ivankov, at that time the most
powerful Russian organized crime leader in the United States. Currently, Organized Crime Strike
Forces in every major city from New York and Philadelphia to San Francisco and Los Angeles are
engaged in significant Russian organized crime investigations and prosecutions, including the
ongoing Bank of New York inquiry. The Ivankov and other recent cases are described in more
detail in exhibit A attached to my testimony.

In the past few years we have seen with increasing frequency suspicious financial
transactions emanating from the countries of the former Soviet Union, which naturally raise the
question of money laundering. The Bank Secrecy Act and the money laundering provisions of the
Criminal Code are our major weapons in the war against the laundering of proceeds of organized
crime. The three most frequently used statutes are sections 19S6 and 19S7 of Title 18, and the
anti-stnicturing provision found in § S324 of Title 3 1 . This latter statute is used to prosecute
persons who structure or "smurT currency into financial institutions in a manner designed to

367

avoid the filing of a Currency Transaction Report. The numbers of defendants charged under
these statutes for the past three years are as follows:

Year

18USC1956

18 use 1957

31 use 5324

FY1996

1627

341

170

FY 1997

1692

344

155

FY 1998

1768

321

180

As you can see, over the past three years, the Department of Justice has charged and prosecuted
more than 2,000 defendants each year for violations of these money laundering statutes.
Approximately 50 percent of these cases involved the proceeds of drug trafficking. The
remainder involve the proceeds of white collar crimes such as health care fraud and telemarketing
fraud, as well as the proceeds of organized crime activity such as prostitution, gambling, extortion
and interstate transportation of stolen property.

While the Department uses the money laundering statutes to prosecute the movements of
illegal proceeds, when we have probable cause we also use our forfeiture statutes to forfeit the
proceeds of criminal activity and the property used to facilitate criminal activity. Indeed, because
the money launderer is often a fugitive, or a person whose identity remains unknown, an effective
way to enforce the money laundering laws is often to confiscate the money.

Before I address the question of additional assistance and legislative proposals that we
offer for your consideration as important aids in the fight against Russian organi2ed crime, let me
briefly address the ongoing inquiry into possible money laundering transactions at the Bank of
New York. In most cases, as you know, the Department faces a number of severe legal
restrictions which prevent us from commenting publicly on pending criminal investigations. In

368

addition, we are sensitive to a number of significant policy considerations which make us
extremely reluctant to make any public comment on a case even where we arguably have the legal
authority to do so. Among these are the need to protect the identity and safety of witnesses and
prevent the subjects of the inquiry from learning the progress of the investigation against them.
Premature disclosure of the investigation can cause subjects of the investigation to destroy, alter
and manufacture evidence and deter potential witnesses from coming forward. Also present is the
need to prevent the unfair damage to reputations that would result if we were to prematurely
accuse persons of crimes.

In addition, especially in complex, fast-moving matters, there is the very real danger that
any comment that I might make about the investigation on Day 1 may be disproved or
significantly altered by new evidence on Day 2. To make matters worse, the new evidence
disproving my earlier comment might be obtained through the grand jury or other channels which
legally restrict any disclosure of the new information. Under such circumstances, I would be
forced to stand idly by while my earlier comment, now proven incorrect by subsequently obtained
evidence, continued to contribute to and maintain a false impression in the minds of policymakers
and the American public.

With these restrictions in mind, I can tell you that the inquiry into the suspicious
transactions at the Bank of New York is being conducted by agents from the FBI's New Yoric
office and prosecutors from the U.S. Attorney's Office for the Southern District of New York.
Analysts fi-om the Federal Reserve Bank of New York and the Internal Revenue Service are
working with the investigative team and are bound by the same nondisclosure rules that bind the
prosecutors and FBI agents. This has been and will continue to be a complex and painstaking

369

investigation. Significant investigative resources have been and will continue to be expended in an
effort to ensure that we uncover the full story behind those transactions and bring any merited
criminal charges.

Last week, as part of the inquiry, I, other prosecutors and agents, and representatives of
the State and Treasury Departments met with a team of Russian law enforcement officials in
Washington. We discussed ways to cooperate with each other consistent with applicable law and
our respective law enforcement policies and practices, and we agreed on improved procedures for
requesting assistance as necessary. As I am sure you realize, given the fact that much of activity
giving rise to these transactions occurred in Russia, we have no choice but to request extensive
cooperation from the Russians if we are to discover the true facts of this matter. A brief
description of the means by which we seek to obtain legal assistance from other countries is
attached as exhibit B to my remarks.

Finally, while the inquiry is still in progress, we will be unable to make any definitive
statements concerning the facts of the case.
Measures

While we are making great progress in dealing with on Russian organized crime, the laws
which we use to wage this effort, particulady in the area of money laundering, are not keeping up
with developments in the techniques of international crimes being used by the criminals. With the
addition of some new legislative provisions, our efforts in this fight would be much enhanced.

Most of these legislative provisions are contained in a bill that will shortly be submitted to
Congress as the Money Laundering Act of 1999. These provisions, among other things, would
add additional foreign crimes such as fraud to the list of permissible SUAs for U.S. money

370

laundering charges, make it easier for federal prosecutors to gain access to foreign business
records, and enhance our ability to prosecute money transmitters who knowingly accept criminal
proceeds. In this regard, I understand that you, Mr. Chairman, are preparing legislative to achieve
many of these objectives. We welcome the tenor of your legislation, as we understand it, and we
look forward to working with you on these issues. A more detailed description of the provisions
of the Money Laundering Act of 1999 is attached as exhibit C to my testimony.

In addition, last year, the Administration sent to Congress the International Crime Control
Act of 1998, a package of more than 50 new legislative measures to help us fight international
crime and to implement the objectives of the International Crime Control Strategy. The package
included measures that would provide new authority to investigate and punish acts of violence
committed against U.S. nationals abroad; to strengthen our air, land, and sea border security; to
deny safe haven to international criminals; to seize and forfeit the assets of international criminals;
to respond to emerging international crime problems such as international computer crimes; and
to promote global cooperation.

A number of the provisions in the International Crime Control Act were passed by the
Senate last year. We plan to resubmit them to Congress again this year as part of the
Administration's crime bill, and I would urge the Members here to pass these important and
much-needed provisions that will give law enforcement the tools we need to fight international
crime.

As I have noted, we also are seeking to expand the FBI's Legal Attache program and the
stationing overseas of additional Department of Justice attorneys. In many key countries, such as
Russia, FBI Legats are stretched very thin and the Justice Department has no operational presence

371

at all. We feel strongly that additional FBI Legats and Justice Department attorneys would
greatly enhance our effective cooperation with those countries. While many U.S. governmental
bodies contribute to U.S. law enforcement cooperation with other countries, at the messy day-to-
day, operational level, where actual cases are made, there is simply no substitute for "cop to cop"
and "prosecutor to prosecutor" links between affected nations. We therefore would ask for your
support of these crucial programs.

Mr. Chairman, for many years now the Department has been engaged in the struggle
against Russian organized crime, both at home and abroad. We are still in a steep learning curve,
and clearly much remains to be done. However 1 am confident that, with your help, we will strike
heavy blows against the power of Russian organized crime wherever it is found and succeed in
driving its influence from our shores.

Thank you, I would now welcome the Committee's questions.

372 4

Exhibit A
Recent Prosecutions of Russian Organized Crime

1. United States v. Vvacheslav Kirillovich Ivankov. prosecuted in the United States
District Court for the Eastern District of New York, involved a prosecution of a high ranking
organized crime figure who emigrated from Russia to the United States in late 1989. Ivankov
was convicted of violating the Hobbs Act in relation to his exploitation of his fearful reputation as
an organized crime figure to attempt to extort money from other immigrants from Russia. The
facts of the case presented at trial showed that a banker who had taken money from the now
defunct Charra bank in Russia for investment in the United States employed Ivankov and his
organization to collect more than two million dollars from these immigrants ai^er they had
invested the money in losing ventures. Ivankov was sentenced to serve approximately 10 years in
prison as a result of his conviction.

2. United States v. Alex Mishulovich. at al . being prosecuted in the Northern District of
Illinois, involves an allegation that the defendants obtained fraudulent visas to import Latvian
women to work as prostitutes in Chicago area strip tease clubs. The defendants are charged with
conspiracy, peonage and visa fraud. Two defendants have entered guilty pleas to charges of visa
fraud, one defendant is a fugitive and the other two defendants are currently scheduled for trial on
November 29, 1999.

3. United States v. Oleg Kirillov. et al.. prosecuted in the Southern District of Florida,
involved interstate transportation of stolen money and drug trafficking from South America
through the United States to Eastern Europe by a Russian organized crime group from Nizhny-
Novgorod, Russia. This group, led by Kirillov, had relationships v^th the Solntsevskaya and
other major Russian organized crime groups, as well as Colombian drug gangs. The defendants
were convicted of all charges in April 1999 and are awaiting sentencing.

4. United States v. Alexander Lushtak. being prosecuted in the Northern District of
California, alleges a multi-million dollar investment fraud scheme and the subsequent laundering
of nearly two million dollars of the proceeds of that scheme by depositing moneys involved in the
fraud in an account at the Bank of New York. The indictment in the case was returned on
September 1, 1999. A trial date has not yet been set.

5. Operation Gas Gangsters was an investigative project in which a series often
indictments were returned in the Central District of California resulting in more than 40
convictions of various persons associated with Armenian ethnic organized crime enterprises. The
defendants in these various cases participated in a scheme involving evasion of diesel fiiel excise
taxes. This scheme was first uncovered in prosecutions involving the Colombo LCN family in the
1980's.

6. United States v. Dimitri Gufield. et al.. a prosecution being conducted in the Eastern

373

District of New York, is a RICO case in which kidnaping, prostitution, medicaid fraud, extortion,
arson, by members of an organization known as "the Gufield/Kutsenko brigade," is alleged. All
of the defendants entered guilty pleas. The leader of the brigade, Dimitri Gufield pled guilty to
arson, conspiracy to extort and the use of violence in aid of racketeering Sentencing has not yet
been set, but preliminaiy sentencing guidelines calculations indicate lengthy prison sentences
ranging up to twenty years in prison.

7. United States v. Dominick Dionisio. et al.. is a case being prosecuted in the Eastern
District of New York, in which two persons alleged to be associated with the Colombo family of
La Cosa Nostra and an alleged member of the "Bor" Russian organized crime group are alleged
to have operated a multi-million dollar investment fraud and to have laundered the proceeds of
the scheme. The indictment was returned in June 1999, but no trial date has yet been set.

8. United States v. Alexander Spitchenko. et al.. is an ongoing prosecution in the
Southern District of New York of members of a Russian organized crime brigade involved in
extortion, murder, money laundering, and drug trafficking and controlled by the highest levels of
Russian organized crime.

374

Exhibit B

Obtaining International Mutual Legal Assistance

As in any major investigation with international aspects, it will be essential to obtain swoft,
effective international cooperation from foreign governments. Right now, there are several legal
mechanisms through which the United States may seek mutual legal assistance in criminal maUers
from a foreign country. Three such legal tools that are frequently utilized are
(1) mutual legal assistance treaties (MLATs), (2) executive agreements, and (3) formal requesU
pursuant to letters rogatory. In addition, of course, law enforcement agencies can obtain
international cooperation through their attaches posted at the various U.S. Embassies overseas,
through foreign nations' liaison officer posted to foreign Embassies in Washington, or via
INTERPOL.

Mutual Legal Assistance Treaties

Some of the most effective and efficient international cooperation is achieved under a
mutual legal assistance treaty (MLAT). Over the past twenty years, the MLAT channel has
proven very useful in transnational financial investigations, such as the BCCI investigation, the
investigation of Banco Nationale de Lavoro (BNL), and the money laundering aspects of the
"Pizza Connection" heroin trafficking case.

The United States currently has MLATs in force with 26 countries, including several
foreign countries that may have evidence relevant to Russian money laundering and Russian
organized crime. These include Switzeriand, Antigua, and the United Kingdom. (A complete list
of the 26 MLAT countries is attached hereto). There is no MLAT in force between the U.S. and
Russia yet, but an MLAT with Russia was signed on June 17, 1999, and it should be submitted to
the Senate for advice and consent soon.

Under the MLATs, each party is obliged to assist the other in the investigation,
prosecution, and other proceedings related to criminal matters. Assistance may include taking
testimony or statements, obtaining documents or items, serving documents, transferring persons in
custody, conducting searches and seizures, assistance in forfeiture proceedings (and in the
repatriation of all or part of confiscated assets, in accordance with the laws of the Party having
custody over them), and any other assistance not prohibited by the Requested State's laws.
MLATs usually provide for assistance without regard to whether the matter under investigation
would be a crime in both countries, and are especially helpful in assuring that the evidence
produced is in a form that is admissible at trial in the Requesting State.

Typical provisions found in MLATs include: (1) a designation of a "Central Authorit/* or
implementing official, in each State, permitting direct communication between law enforcement
communities for purposes of the MLAT; (2) a limited number of agreed bases for denying
assistance (e.g., a request related to a political or military offense or a request that would

375

prejudice the sovereignty, security or similar essentia! interests of the Requested State), and (3) a
description of the form and contents of a request, the manner in which requests shall be executed,
and the costs that each side will assume in connection with MLAT matters. The MLATs usually
specify clearly upon request, the Requesting State may use or reveal the evidence produced
pursuant to MLAT requests only for the purpose for which it was requested.

MLATs have proven to be an especially useful mechanism for processing a large number
of requests for law enforcement assistance in complex financial investigations.

Executive Agreements on Mutual Assistance

Another means by which the United States may obtain international legal assistance is via
a bilateral executive agreement. As I indicated, there is no MLAT in force with Russia, but there
is an Agreement Between the Government of the United States of America and the Government
of the Russian Federation on Cooperation in Criminal Law Matters, signed June 30, 199S, which
entered into force in February, 1996. This U.S. -Russia Agreement is an interim arrangement that
is intended to serve as a legal vehicle for mutual legal assistance until such time as the bilateral
MLAT, signed on June 17, 1999, enters into force.

The Agreement somewhat resembles an MLAT, in that it provides for assistance in
obtaining evidence in a form admissible at trial. However, the Agreement is much narrower in
scope than an MLAT, as the Agreement only applies to nine categories of crime listed in an
Annex attached to the Agreement. Russian and U.S. authorities have exchanged diplomatic notes
that expand the list of covered offenses to include tax and customs offenses. Once the MLAT
enters into force and replaces the Agreement, the offenses for which assistance may be sought will
greatly expand to include any offense that is an offense in both the United States and in Russia.

Article 1 of the executive agreement provides that the Central Authority for the United
States is the Attorney General and the Central Authority for Russia is the Office of the Procurator
General. While the article provides further that the Central Authorities may communicate directly
for purposes of the executive agreement, as a practical matter, the Russian authorities have failed
to designate and consistently maintain a single point-of-contact with whom U.S. authorities can
cooperate. U.S. authorities have brought this to the attention of high-level Russian authorities,
who have acknowledged this as a problem and stated that the Procurator General's Office has
been considering establishing an office, similar to our Office of International Af^rs in the
Criminal Division, in order to alleviate this problem and enhance the level of our cooperation.

Currently, there are numerous requests for assistance pending from Russia to the United
States, and from the United States to Russia. The majority of the executive agreement requesU
currently pending involve various fraud offenses and seek such assistance as requests for bank
records, company documents, and interviews of witnesses.

Letters rogatory

376

In the absence of a bilateral treaty or agreement, the United States may seek assistance
from a foreign country through submission of a letter rogatory. A letter rogatory essentially is a
formal request for legal assistance from a judicial authority in one country to a judicial authority in
another country. Typically, letters rogatory are transmitted via the diplomatic channel, which can
be a slow and time-consuming process. The Requested State has no obligation to provide
assist?nce, but, as a matter of comity, generally does so if possible under its domestic laws. The
letters rogatory process enables us to seek evidence from virtually any country in the world for
use in an investigation, trial or proceeding in the U.S.

377

UNITED STATES MUTUAL LEGAL ASSISTANCE TREATIES (MLATs) - September 17, 1999

MLAT with:

Signed;

Eiitcicd into Force: Citation
(if any):

Switzerland

Turkey

Netherlands

Italy

Canada

Cayman Islands

Bahamas

Mexico

Argentina

Thailand

Morocco

Spain

Uruguay

Jamaica

Panama

Philippines

United Kingdom

Hungary

South Korea

Austria

Israel

Antigua-Barbuda

Lithuania

St. Vincent

Grenada

Poland

May 25, 1973

June 7, 1979

June 12, 1981

Nov. 9, 1982

March 18, 1985
July 3, 1986

Aug. 18, 1987

Dec. 9, 1987

Dec. 4, 1990

March 19, 1986

Oct. 17, 1983

Nov. 20, 1990

May 6, 1991

July 7, 1989
April 11, 1991

Nov. 13, 1994

Jan. 6, 1994

Dec. 1, 1994

Nov. 23, 1993

Feb. 23, 1995

Jan. 26, 1998

Oct. 31, 1996

Jan. 16, 1998

Jan. 8, 1998

May 31, 1996

July 10, 1996

Jan. 23, 1977
Jan. 1, 1981
Sept. 15, 1983
Nov. 13, 1985

27 UST 2019
32UST3111
TIAS 10734

Jan. 24, 1990

March 19, 1990
July 18, 1990
May 3, 1990
Feb. 9, 1994

June 10, 1993
June 23, 1993
June 30. 1993
April 15, 1994

July 25, 1995

Sept. 6, 1995
Nov. 22, 1996
Dec. 2. 1996
March 18, 1997
May 23, 1997

August 1, 1998
March 25, 1999
July 1, 1999
August 25, 1999
Sept. 8, 1999
Sept. 14, 1999
Sept. 17, 1999

The U.S.-Cayman Island MLAT was extended to Anguilla, the British Virgin Islands, and the Turks
and Caicos Islands on Nov. 9, 1990, and to Montserrat on April 26, 1991.

Several additional MLATs have been signed but are not yet in force, with:

South Africa

Russia

Romania

Greece

France

Ukraine

Egypt

Estonia

Czech Republic
Brazil
Venezuela

Sept. 16, 1999

June 17, 1999

May 26, 1999

Dec. 10, 1998

July 22, 1998

May 3, 1998

April 2, 1998
Feb. 4, 1998

Oct. 14, 1997

Oct. 12, 1997

378

St. Kitts-Nevis

Latvia

Australia

Hong Kong

Luxembourg

Dominica

St. Lucia

Trinidad-Tobago

Barbados

Org. of American

Nigeria

Belgium

Colombia

Sept. 18, 1997
June 13. 1997
April 30, 1997
April 16, 1997
March 13, 1997
Oct. 10, 1996
April 18, 1996
March 6, 1996
Feb. 28, 1996
States Jan. 10, 1995

Sept. 9. 1989
Jan. 28, 1988
August 20, 1980

BOLDFACE indicates a new treaty approved by the U.S. Senate on October 21, 1998.

379

Exhibit C
Description or Selected Provisions of Tlie Money Laundering Act of 1999

Stopping the flow of cash drug proceeds out of the United States

1. Expand the Bank Secrecy Act to make bulk cash smuggling of amounts exceeding
$10,000 a crime, and provide for confiscation of the smuggled currency as part of the
penalty. We believe this is an enormously important provision to the law enforcement
community, and will do all possible to work with this Committee to enact this provision.

2. Make it an offense for a currency courier, who knows that the money is unlawfully
derived, to transport more than $10,000 in currency in interstate commerce.

3. Enhance our ability to prosecute money transmitters who knowingly accept criminal
proceeds.

4. Enact penalties for violating "geographic targeting orders" that require the filing, in
specified geographic areas, of reports by money transmitters and vendors of money orders
when cash transactions exceed a threshold amount.

Holding foreign banks and other entities liable

5. Enact a long-arm statute allowing federal courts to exercise jurisdiction over foreign banks
and other entities that violate the federal money laundering laws by conducting
transactions in the United States so that they may be subject to civil penalties.

Thwarting **black market" transactions

6. Require persons who purchase drug dollars on the black market to prove — when they
challenge our attempts to confiscate the money — that they were bona fide purchasers for
value with no reason to know that the dollars were derived from unlawful activity.

7. Give federal prosecutors greater access to foreign business records that may be used to
trace the money sold in specified circumstances by providing sanctions for those who hide
behind the bank secrecy laws of other countries.

8. Close a loophole in the federal money laundering statute, 18 U.S.C. § 1956, by making it
clear that it applies to both parts of a parallel transaction when one part involves criminal
proceeds. For example, if a person sends drug money fi^om account A to account B, and
then replenishes account A with the same amount of money from account C, the latter
transaction would constitute a money laundering offense.

380

ConHscating the assets of criminal dereiidnnts

9. Bar fugitives from contesting confiscation orders unless they surrender on criminal
charges.

1 0. Authorize federal courts to order the repatriation of criminal proceeds from abroad, and
authorize pre-trial restraint of all property subject to criminal forfeiture.

1 1 . Bar incarcerated prisoners from waiting until the statute of limitations has run to file
challenges to confiscation orders. Prisoners should have to file their challenges within two
years after the orders are final.

Encouraging cooperation with foreign governments

12. Provide for freezing of U.S. assets of defendants who have been arrested in a foreign
country, and for the confiscation of the proceeds of specified foreign crimes under federal
law.

13. Create a procedure for enforcing foreign confiscation orders against the property of
foreign criminals when the property is found in the United States.

14. Make it a crime to launder the proceeds of additional specified foreign crimes in the
United States.

15. Authorize the sharing of confiscated property with co-operating foreign governments in
cases where that authority does not currently exist.

381

Testimony of

Thomas A. Renyi

Chainnan of the Board and Chief Executive Officer

The Bank of New York Company, Inc.

before the
House Committee on Banking and Financial Services

September 22, 1999

Mr. Chainnan, Congressman La Falce, members of the Committee: My name is Tom
Renyi. 1 am Chairman of the Board and Chief Executive Officer of The Bank of New York
Company.

I appreciate the opportunity to testify before the House Banking Conunittee on behalf of
The Bank of New York. We are the nation's oldest bank, founded in 1 784 by the same man who
established and first headed the United States Treasury, Alexander Hamilton. Our business
today focuses on providing services to the global financial services sector. We are one of the
leading correspondent banks for commercial banks aroimd the world. We provide corporate and
retail services in our home market, as well as a variety of other trust and investment services.
The Bank of New York has consistently produced earnings that rank among the best in our
industry, while maintaining a culture and reputation of prudence and responsibility over our 215
year history.

You can therefore imagine how dismayed I have been by the suggestions in the press that
The Bank of New York has been involved in, or been used as a vehicle for, money laundering or
other illicit activities. Let me set the record straight at the outset No charges have been filed
against The Bank of New York. No relevant authorities have asserted that The Bank of New
York has engaged in money laundering or violated any other law. Neither the Bank nor any of
its customers have lost any money as a result of the activities in question. We have cooperated
fully with the ongoing investigations being conducted by numerous US and foreign law

59-889 00-13

382

enforcement agencies and bank regulatory authorities. We have provided these authorities with
tens of thousands of documents and millions of electronic bits of information. We continue to
cooperate with these investigations, which are not yet complete and remain highly confidential.
Our commitment is to continue to participate fiilly in these investigations until they are
completed. But, as you can understand, there are limits to what we can disclose prior to the
completion of the investigation.

In my testimony, I would like to address three broad questions relating to our inquiry into
possible misuse of the international funds transfer system: First, what were the events that
actually took place, and how did they take place? Second, what have we done as a residt of these
events and the subsequent inquiry? And third, what else might be done, by entities or groups
with a scope and mandate broader than our own? In the course of this discussion, Mr. Chairman,
I will address in some detail the six specific topics relating to procedures, actions and
relationships of The Bank of New York that you raised in your letter inviting me to appear
before you today.

What took place and how?

Press accounts have tended to ignore The Bank of New York's cooperation with
investigating agencies here and abroad. Although, Mr. Chairman, there are limits to what I can
say about these investigations because of their ongoing nature, let me try to describe what I can.
The Bank learned of these investigations a year ago, in September 1998. When we requested the
U.S. Attorney's permission to close the accounts they were monitoring, we were asked to keep
the accoimts open; to advise no one, other than our bank regulators, about the investigations; and
to take no action that would compromise the confidentiality of the investigatioits. We did all
these things. It was our commitment then, and remains our commitment now, to cooperate fully
with all law enforcement efforts.

Issue (4) in your letter of invitation deals with the opening of these accoimts. As I said
before, the Bank's internal investigation is still in its early stages, so I am not in a position to
make final or definitive statements about every aspect of these accounts. What we have learned
about these accounts is this: When opened, the accounts were quite normal. The principal

383

accounts were opened at a New York City branch of the Bank by Peter Beriin, a New Jersey
resident who became a US citizen in 1996, and who represented himself as operating small
businesses in the New York City metropolitan area. The accounts were referred by an officer of
the Bank, Lucy Edwards, Mr. Berlin's wife. The initial history of the accounts was
unremarkable, and account activity was consistent with a modest business.

However, the volume of funds moving through these accounts increased to levels well
beyond what would have been expected for businesses of this kind. When Bank employees
noticed the increased volume, questions were asked within the Bank about Mr. Berlin and his
companies. But the questions were not pursued with sufficient vigor or follow-through, and the
questioners relied too heavily on the fact that Mr. Berlin was married to a well-regarded Bank
officer, Lucy Edwards, who had referred the accounts.

Allowing these accounts to remain open and active without sufficient questioning was a
lapse on the part of the Bank. I have taken personal responsibility for implementing remedial
actions. I will describe these later in my testimony.

From a broader perspective, the questions of how these accounts operated extend to our
business presence in Russia and to the nature of the global funds transfer system. The Bank of
New York has done business in Russia since 1922, when Irving Trust, which we later acquired,
opened an accoimt for Vnesheconomobank, the Bank for Foreign Economic Affairs of the
USSR. With the collapse of the Soviet Union in 1991, a new banking system began to emerge in
Russia. Responding to public and private initiatives and encouragement to "bring Russia west,"
we - and many of our nation's other leading commercial and investment banks - were asked to
aid the development of this system, in our case focusing on the development of the infrastructure
for the Russian capital markets, where our expertise in fimds transfer and American Depositary
Receipts was pertinent. We committed Bank personnel and resources to planning committees,
training sessions, technological discussions and the like with Russian banking executives and
personnel.

384

The business role we chose for ourselves in Russia was similar to v^^t we do in many
other countries: Correspondent banking and securities processing activities, bank-to-bank
business, that generates stable, predictable fees with relatively low risk and capital exposure.
These businesses include fimds transfer, cash-coUateralized confirmations of letters of credit,
handling of collections, acceptance of deposits and the extension of limited credit to the Russian
banking system out of the New Yoric office.

We have no branches or bank subsidiaries in Russia, just one office that employs five
people who perform administrative functions. We take no deposits in Russia. We extend no
credit in Russia. Here in the US, we are a leading depositary for American Depositary Receipts
for Russian companies, as we are for many countries around the world. This is a record-keeping
and processing function. The Bank of New York does not underwrite, invest in, or sell Russian
securities.

Issue (2) in your letter of invitation deals with our practices and procedures when
establishing correspondent bank relationships. The Bank of New York employs the following
procedure for opening correspondent relationships with foreign banks. All new relationships
must be sponsored by a Bank of New York relationship manager who works in the department
that is responsible for the correspondent bank's home country. Before an account is opened, the
relationship manager must have a written request fix>m the prospective correspondent bank,
develop a list of other correspondent bank references around the world, and meet with the bank
on its premises. The prospective correspondent must submit financial statements and other
regulatory filings. The relationship manager must secure a reference fit)m two existing Bank of
New York correspondent banks.

A related issue, issue (5) in your letter of invitation, addresses The Bank of New York's
relationship to the American Depositary Receipts of Inkombank and Bank Menatep. As you
may be aware. The Bank of New York is the world's leading ADR bank, and our services for
these two banks were basically the same as our services for {^proximately 1300 other companies
around the world. As previously stated. The Bank of New York did not underwrite, invest in,
sell or assist any other entity in selling shares or ADRs for these Russian companies. The Bank

385

acts as the Depositary bank, fulfilling administrative functions dealing with the legal transfer and
registry of ownership of these securities.

The ADRs sponsored by Inkombank and Bank Menatep were issued against shares
already trading in their home market. Although our role was limited to an administrative
function and therefore did not involve underwriter's due diligence, we met with the banks'
principal executives and their U.S. coimsel. Both banks sought and obtained regulatory approval
to offer ADRs in the U.S. from Russia's Central Bank. As required by U.S. law, registration
statements relating to the ADRs were filed by both banks with the U.S. Securities and Exchange
Commission and were declared effective by the Commission. And both banks were required to
and provided information to Russia's Central Bank and to the SEC under Rule 12g3-2(b),
including Annual Reports and Financial Statements audited imder international accounting
principles by Big Six accounting firms.

A final business-relationship issue is issue (6) in your letter of invitation, the Bank's
relationship with Bruce Rappaport and Inter-Maritime Bank. Mr. Rappaport is a shareholder of
The Bank of New York Company, Inc., which is the parent of The Bank of New York.
According to filings with the Securities and Exchange Commission, the last time he owned more
than 5% of our stock was 1 1 years ago in 1988. We believe that he currently owns substantially
less than 5%.

The Bank and Mr. Rappaport are co-owners of Bank of New York - Inter-Maritime Bank
(BNY-IMB) - a Geneva-based, Swiss bank. The Bank of New York owns 27.9% of this entity.
BNY-IMB focuses on private banking and investment management. It is a small institution, with
a total staff of 90 people and total assets of CHF 266 million. The Bank has a traditional
correspondent banking relationship with BNY-IMB, which includes credit, cash management,
custody and clearing services. The Bank of New York has no other commercial relationship
with Mr. Rappaport.

Again, our principal business in Russia is in correspondent banking. Satisfying ourselves
as to the credit- worthiness and business-wcMthiness of any correspondent bank, however, does

386

not give us any knowledge as to the identity or activities of their customers. Our correspondent
banking businesses involve dollar clearing or the transfer of US dollars through the global
payments system. The essential characteristics of this system are its size, its speed and its lack of
transparency. I want to focus on these key features of that system, because they help to explain
how funds moved into and out of the Berlin accounts, and because they are the source of
considerable frustration to anyone who seeks explicit information about the use of these, or any
other, accounts.

First, the US dollar payments system is huge - close to a million transactions, with a total
value of four trillion dollars, flow between the US dollar accounts of world banks every single
day. Some $1 .4 trillion of that daily volume moves through the Federal Reserve System.
Another $1 .4 trillion moves through the Clearing House International Payments System
(CHIPS). And $1.2 trillion moves through "book transfer," often using the Society for
Worldwide Interbank Financial Telecommunications (SWIFT), a cooperative system with 6500
members in 178 countries. The system is automated, so that transfers are virtually instantaneous
and virtually flawless in their efficient execution. These massive amoimts tend to obscure the
complexity of individual international transactions. A seemingly routine transaction, a company
in New Delhi paying $S million for auto parts made by a company in Detroit, can involve as
many as five or six banks in several different countries, using a variety of payment systems.

Because of the extraordinary dollar value of the average transaction (approximately $4
million), errors are costly. To provide the necessary level of efficiency and accuracy, the system
is designed to provide the highest possible level of straight-through or automatic processing.
Manual intervention is minimized. This offers greater security at certain levels, because people
can be compromised more easily than machines.

However, this system is also opaque, even to the practiced eye. The funds transfers here
involve not physical cash or checks, but computer-driven electronic messages. The messages
consist of little more than simis, accounts numbers and bank identifiers in digital form and are
not intended to and only rarely would provide any reliable indication of the originator or ultimate
beneficiary or the intended use of the payment This is the form that assures the smoothest

387

functioning of the payment system, because it minimizes eirors of misinterpretation of data and
instructions.

We and other banks realize the danger that fimds transferred through the international
payment system could have been illegally obtained or are being illegally diverted. That is why
there are safeguards designed to limit access to the system to legitimate financial institutions.
These safeguards include membership criteria for such organizations as CHIPS and SWIFT, and
the review that should take place before we, or any bank, grants another bank correspondent
status and access to the global payment system. Additionally, there are features which we all use
to identify transactions that have been blocked by Executive Order. Scaiming systems are used
to stop and review transactions containing such pre-set identifiers as Cuba and Havana, Baghdad
and Iraq. But these scanning systems only work when we have a suspect and some indication of
his access to the global system to guide us.

To sum up, the global payments system is excellent at tracking funds flows within its
internal electronic pathways; but the system is not very good at all at identifying who controls
the origination or destination accounts, how they came by the money, or what they plan to do
with it.

So we share the frustration of the authorities in these ongoing investigations. In the five
weeks that we have been conducting our own investigation, we have examined vast amounts of
data - but it is simply not possible for this data to identify the source or legality of any individual
transfer of funds. Once a bank grants a customer access to its payments system and, by
extension, the US dollar payment system, it is extremely difficult to track the flow of funds or to
stop a transaction before it happens.

What have we done about the events and their causes?

Issue (1) cited in your letter of September 2 is The Bank of New York's internal
procedures for identifying and reporting suspicious account activity. The Bank has reviewed and
revised its program that identifies and reports suspicious funds transfer and money movement
transactions. These elements are brought together by the new Anti-Money Laundering

388

Committee, vdiich reviews unusual customer activity, documents its investigations and
recommends appropriate action for the reviewed accounts directly to the Chief Executive Officer
of the Bank and to the Board of Directors. These actions include closing of accounts and filing
Suspicious Activity Reports. One important aspect of the committee's mission is to address the
possibility of an individual within the bank deflecting fiiture questions about unusual account
activity.

The Anti-Money Laundering Committee relies upon six automated review systems to
analyze accounts for unusual activity, such as excess balance growth, excess fund transfers,
transfers to high-risk countries and activity inconsistent with the original stated purpose of the
account. The Committee also oversees the Bank's Anti-Money Laundering Training Program,
vMch has provided awareness training for literally thousands of employees who deal with
customers or who process customer transactions.

At the foundation of die Bank's program are detailed Anti-Money Laundering Policies
and Procedures, including con^)rehensive Know Your Customer procedures for individual
banking units. This entire program has been independently reviewed by a Big Five accounting
firm, who found it satisfactory. The firm has made recommendations for further improvement,
which the Bank is implementing.

The Bank has in place a state-of-the-ait computer-based system (the Atchley System) for
monitoring the flow of funds transferred through the Bank. We have been working with outside
consultants to take funds transfer monitoring to a higher level - one that examines behavioral
patterns to detect abnormal activity. This approach is similar to the behavior-based systems that
are used by many credit card issuers to monitor card activity. We have identified such a system,
which we are testing for ai^iroval and final implementatiotL

Addressing issue (3) cited in your letter, die improved anti-money laundering program
described above is a major element of the Bank's response to the recent allegations. In addition,
the Bank has commenced a comprehensive internal investigation into the Berlin-related accounts
with the assistance of outside counsel and forensic accountants. Because that investigation is

389

still in its early stages, it would not be fair or appropriate to report on the findings to date. 1 will
say this, however: our review is a searching one, conducted with fairness to all Bank employees,
and I have instructed those conducting the investigation to "let the chips fall where they may."
All employees are required to cooperate in the investigation. In two instances where employees
refused to meet with our investigators they were promptly terminated. CXir investigation
determined that the two employees of the Bank, including Ms. Edwards, had also violated our
Code of Conduct. TheCodeofConduct, which every officer must review and sign annually, is
the ethical centerpiece of our Bank's performance. Violations of the Code have never been, nor
will they be, tolerated. If other violations or weaknesses are identified in the course of this
investigation, or by the investigations being conducted by the authorities, appropriate action will
betaken.

What can be done at the public policv level?

My testimony today deals mostiy with the actions of a very few individuals and one bank.
But the investigations involve many other institutions around the world, and the question of
possible misuse of the international funds transfer system is a truly global question. If we are to
improve our global system, we must do so through international cooperation. Heightened
domestic surveillance in any one country may simply drive would-be wrongdoers to less
stringent points of entry into the system.

To do so imilaterally would have the impact of moving trade flows into non-US dollar-
denominated currencies and their respective payment systems. Thus, any policy action that
would reduce the importance and attractiveness of the US dollar as the currency of choice for
international trade - and as a reserve currency - would place the United States at a distinct
competitive disadvantage in the world economy.

Another policy issue is what the role of US banks should be in establishing correspondent
relationships in Russia and other emerging countries where there are concerns about corruption.
In this case, if western banks redline Russian banks, the emergence of a modem capitalist
economy in Russia will probably be impossible.

390

We should, as well, determine if and how US foreign policy should address illicit
business activity that uses the US dollar payments system. Today, an agency of the US
Treasury, the Office of Foreign Assets Control, provides enforcement against economically
embargoed countries, including Cuba, Libya and Iraq. OF AC instructions prevent lunds
transfers through our banks to these nations. Should that approach be applied to money
laundering? Should that approach be t^plied more broadly to include flight capital? Could it be
done selectively, without restricting legitimate trade flows?

This leads us to the final policy issue, that of privacy. If we choose to step up
surveillance activities, can we do so with appropriate respect for our fellow citizens' right to
privacy? We have seen considerable public debate just this year to new Know Your Customer
regulations proposed by federal bank regulatory agencies, and also to bank practices that shared
customer records with marketing companies. We will need to keep in mind the need for a
careful balance between transparency of financial transactions and the right to personal financial
privacy.

I believe these are legitimate and important issues that touch on the central themes of
these hearings. Yet the broader considerations should not obscure the essential responsibility
that we and all the participants in the global payments system have in ensuring its appropriate
use. When any financial institution provides access to the system or facilitates its use, it must do
everything it can to prevent illicit activity fiom taking place as a resxilt. And if illicit activity
does take place, it must detect it and bring it promptly to the attention of appropriate authorities.

This is our responsibility. On behalf of The Bank of New York, I reaffirm it today.

391

THE BANK OF NEW YORK

NEW YORK'S FIRST BANK - FOUNDED 17*4 BY ALCXANOCR HAMILTON

JOSEPH M. VCLLI

SCNIOW CXCCUTIVC VICE ^RCSIOCNT

lOl BARCLAY STKEET, NEW YORK, N.Y. lOSSe

Novembers, 1999

U.S. House of Representatives
Committee on Banking and Financial Services
2129 Raybum House Office Building
Washington, D.C. 20515-6050

Attention: Janice Zanardi

Dear Madam:

After Thomas Renyi's testimony before the House Banking and Financial
Services Committee on September 22, 1999, Anthony F. Cole, the Committee's Staff
Director, requested that The Bank of New York ("BNY") respond in writing to questions
submitted by Congressman Edward Royce. Mr. Cole's letter, which we received on
October 14, 1999, posed the following questions:

"In 1996, the Bank of New York assisted a Russian bank
called Inkombank in obtaining regulatory ^proval to sell its
shares in the U.S. as American Depositary Receipts (ADRs).
At the time, Inkombank was under intense scrutiny for
multiple violations of Russian banking rules, and Russian
banking regulators had recommended that the bank's
operations be curtailed. Inkombank was subsequently
declared insolvent. Given Inkombank's well-established
pattern of regulatory and legal infractions at the time it
sought your assistance, why did the Bank of New York
sponsor Inkombank's sale of ADRs on the U.S. exchange?
What due diligence did the Bank of New York perform prior
to rendering this service to Inkombank?"

Mr. Cole asked that we direct our response to you.

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THE BANK OF NEW YORK

U.S. House of Representatives

There are several mistaken assumptions in these questions, which s^pear
to be based on a misunderstanding of the legal framework and process for establishing an
ADR facility and BNY's function as an ADR depositary bank. I will address these points
first, and then explain the nature and extent of BNY's dealings with Inkombank.

BNY's Role as a Depositary Bank

1 . Congressman Royce's questions seem to assume that BNY sold or
underwrote in the United States Inkombank's shares, or ADRs representing shares, and
was required by U.S. securities laws to conduct underwriters' due diligence in connection
with establishing Inkombank's ADR facility. That reflects a misunderstanding of ADRs
and the role of a depositary bank issuing ADRs. In its role as a depositary bank, BNY
did not act as an underwriter of Inkombank's securities or ADRs and, under U.S.
securities laws, had no obligation or practical reason to conduct underwriters' due
diUgence in connection with establishing Inkombank's ADR facility.

American depositary receipts (or "ADRs") are essentially receipts issued
by a depositary, usually a bank, representing the right to receive the securities of non-U.S.
companies "deposited" with the depositary bank's custodian in the company's home
country. Upon deposit, the depositary bank issues ADRs representing the right to receive
the number of securities deposited.

ADRs are simply an alternative way of holding the underlying foreign
securities. The advantage of holding ADRs instead of holding the foreign shares directly
is that the ADRs are transferable on the books of the U.S. depositary bank, thereby
avoiding the substantial mechanical problems and risks of transferring securities on
foreign registries. No U.S. investor in Russian ADRs issued by BNY has lost money
from any of these risks. While ADRs minimize settlement and custody risks, investors
continue to bear the investment risks of the foreign issuer and country.

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THE BANK OF NEW YORK

U.S. House of Representatives

The regulatory treatment of ADRs recognizes that U.S. investors can (and
do) hold securities of foreign issuers directly in a global custody account or indirectly in
ADR form - a decision based upon such factors as the cost, convenience, and services
provided by the U.S. seciuities market and depositary bank versus those provided by the
foreign securities markets and global custodian. ADRs are generally more attractive to
U.S. investors because the depositary undertakes (i) to convert dividends paid in foreign
currency into U.S. dollars, (ii) to distribute to ADR holders annual reports and other
notices from the foreign issuer, and (iii) to exercise voting rights, if any, in accordance
with instructions received from ADR holders.

BNY served as the depositary bank that administered Inkombank's ADR
program. This was a ministerial, not an underwriting, function, and one in which BNY's
role was that of a securities processor. As a depositary for ADRs, BNY plays four
administrative roles:

One, as the depositary bank, BNY issues ADRs in the U.S. to or to the
order of a depositor delivering shares of a foreign company to a custodian bank
located in the company's home country.

Two, upon cancellation of the ADRs, BNY delivers the foreign shares to
the depositor or, upon the order of the person canceling the ADRs, releases the
shares into the foreign market.

Three, as a transfer agent and registrar, BNY processes ADR transfers and
keeps records of the registered ADR holders.

And four, as an administrator, BNY assists foreign companies in
establishing and administering ADR programs.

394

THE BANK OF NEW YORK

U.S. House of Rqiresentatives

These functions are essentially the same as the registration and transfer functions BNY
performs in its securities processing business, so our ADR systems and procedures are
similar to those we employ in our stock transfer agency department for U.S. companies.

We have been conducting our ADR business this way for nearly 80 years,
and have issued ADRs representing the securities of more than 1,300 non-U.S. companies
in more than 70 countries. Other depositaries conduct their ADR business the same way.

2. Congressman Royce's questions also appear to assume that (i)
Inkombank sold its shares in the U.S. in the form of ADRs and (ii) that Inkombank's
ADRs were traded on a "U.S. exchange." Neither assumption is correct.

Inkombank's ADR program was a so-called "Level F' facility. As a Level
I ADR faciUty, the ADRs were traded in the United States in the "over-the-counter"
market. Neither the ADRs nor the underlying Inkombank shares were listed on a U.S.
securities exchange or quoted on NASDAQ, and Inkombank was not required to be, and
was not, a reporting company under the Securities Exchange Act of 1934 (the "1934
Act"). Because there was never a registered public offering in the U.S. of Inkombank's
shares, no due dihgence was required under the Securities Act of 1933 (the "1933 Act").

Under the regulatory scheme estabUshed by Congress and overseen by the
Securities and Exchange Commission (the "SEC"), as well as practices in the ADR
market, it was never contemplated or expected that a depositary bank would conduct due
dihgence in connection with any type of ADR program. And there is no reason it should.
Except when an ADR is issued in cormection with a public offering, the issuance of an
ADR has none of the characteristics of a primary offering of securities and is just a
mechanism for secondary trading in foreign securities. An investor's decision to make a
secondary market investment in foreign securities relates to the underlying security, not
to the ADR. The ADR is merely a receipt entitling the holder to receive the underlying
security, like a receipt for baggage or a coat.

395

THE BANK OF NEW YORK

U.S. House of Representatives

In contrast to Inkombank's Level I ADR facility, an ADR program
established in connection with a U.S. public offering by a foreign issuer (i.e., a capital
raising transaction) which requires a full 1933 Act registration statement and results in
the ADRs trading on a U.S. securities exchange is called a Level III ADR facility.
Foreign issuers making an offering of securities in the U.S. capital markets will use U.S.
investment bankers, be represented by U.S. counsel and have their financial statements
audited by independent public accountants. When an underwriter represents a foreign
issuer in a registered Level III ADR offering, the underwriter will be responsible for
conducting due diligence within the meaning of U.S. securities laws, and the broker-
dealer who solicits U.S. investors to purchase securities in the offering will have to make
sure that the security is a suitable investment for its customers. As a depositary bank,
BNY serves neither of those roles.

3. Although BNY, in its role as a depositary bank, was not required to
conduct underwriters' due diligence on Inkombank, BNY did satisfy itself as to
Inkombank's financial standing and that Inkombank was among Russia's leading
commercial banks. This point is explained in greater detail below. As part of this
process, BNY met with Inkombank's principal executives and its United States counsel.
Inkombank sought and obtained regulatory approval fi"om The Central Bank of the
Russian Federation (the "Central Bank") to establish an ADR facility in the United
States. And, as required by U.S. law, a statement (Form F-6) registering only the ADRs
under the 1933 Act was filed with the SEC and declared effective by the SEC. (The
short-form F-6 provides no investment information, but merely summarizes the
depositary contract information.) To establish its Level I ADR facility Inkombank was
not required to file a registration statement (on Form F-1) with respect to its deposited
shares imderlying the ADRs. Inkombank was required to provide and provided
information to Russia's Central Bank and, under 1934 Act Rule 12g3-2(b), to the SEC,
including Annual Reports and Financial Statements. Inkombank's financial statements.

396

THE BANK OF NEW YORK

U.S. House of Representatives

although not required to be, were audited in accordance with international principles,
rather than Russian standards. Inkombank was required to provide to the SEC the
information required by Rule 12g3-2(b) continuously during the life of its ADR program.

BNY Had Been Closely Following
Inkombank's Progress for Years

Before BNY began working on Inkombank's ADR program, BNY
employees had satisfied themselves over a period of years as to Inkombank's financial
strength and that Inkombank was among Russia's leading commercial banks. BNY had
been calling on Inkombank for several years before Inkombank opened a U.S. dollar
account in March 1992. And, from time to time, BNY employees called on
Inkombank's senior executives in Moscow and Inkombank's executives fi-equently
visited BNY's offices in New Yoric.

Inkombank appointed BNY as depositary for its Level I ADR faciUty in
January 199S. Apart fit>m former state banks, Inkombank was reported to be Russia's
largest private bank with 200,000 individual customers, 40,000 corporate customers and
6,000 employees in SO offices across Russia's 30 regions. And Inkombank's record is
replete with a long string of firsts for Russian banks. Inkombank was the first (or one of
the first) Russian banks:

• to join the SWIFT payment system permitting it to electronically
process international transactions for its clients;

• through which the World Bank granted investment credits to small-
and medium-sized businesses as part of the World Bank's
structural transformation program in Russia and Eastern Europe;

• to establish a line ofcredit with the European Bank for
Reconstruction and Development ("EBRD");

• to produce audited financial statements prepared in accordance
with international accounting standards;

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THE BANK OF NEW YORK

U.S. House of Rqjresentatives

• authorized by the Central Bank of Russia to establish an ADR
facility representing 3% of its share cqjital;

• to become a principal member of VISA International and Europay
International and to launch its own VISA and MasterCards;

• to raise S20 million in Russia's first unsecured syndicated loan
ftom Western banks.

BNY was not alone in its appraisal of Inkombank. Scores of financial

institutions and governments extended credit to Inkombank. The number of

governmental agency programs in which Inkombank was involved is one concrete

measure of the recognition it had earned among Western institutions:

• United States Department of • Oesterreichische
Agricultiu-e Kontrollbank (import-

• U.S. Export-Import Bank export bank) (Austria)

• World Bank • Office Nationale du

• European Bank for Reconstruction Ducroire (Belgium)
and Development • Garanti-Instituttet for

• Hermes (Germany) Eksportkreditt
Eximbank (Hungary) (Norway)

BNY also knew that Inkombank had scores of correspondent banking
relationships, including accounts at Bankers Trust, Bank America, Chase Maiihattan, and
Republic National Bank, and was starting to open representative offices in the principal
financial centers around the world. In March 1995, The American Banker reported that
Inkombank was finalizing applications for a Ucense it plaimed to submit to the Federal
Reserve Board and New York State Banking Department to open a representative office
in New Yoric. rThe American Banker. March 31, 1995). And, in September 1995,
Inkombank received permission fix>m the Bank of England to open a representative office
in the United Kingdom.

Apart ftom our own dealings with the bank, we were aware that
Inkombank had hired a U.S. management consultant firm, McKinsey & Co., to undertake

398

THE BANK OF NEW YORK

U.S. House of Rq)resentatives

a strategic and operational review of the bank and to assist it in developing a corporate
strategy. Based on McKinsey's advice, Inkombank began heavily to invest in "state of
the art systems and controls" and to reorganize its operations. These were regarded as
"significant improvements" and were reflected in banking analysts' assessment of
Inkombank's continued strengths. (BankWatch. August 14, 1996).

We were also aware that Inkombank had hired Westdeutsche LandesBank
Girozentrale, a German bank, to implement control and integration systems and KPMG, a
highly regarded international accounting firm, to audit its books for fiscal years 1993,
1994 and 1995. KPMG's audits for fiscal years 1994 and 1995 were prepared using
international auditing standards. For both years, KPMG gave Inkombank qualified
opinions because the bank was not yet reporting subsidiaries and affiliates on a
consolidated basis and because of deficiencies in the level of its loan loss reserves.
Inkombank was also working with Merrill Lynch on longer-term plans to raise capital in
the international capital markets.

According to the audited financial statements, Inkombank's net profit
more than doubled in 1994, when growth was generally flat for the Russian banking
industry. Throughout 1995, Inkombank's fortimes continued to climb. Analysts who
followed Russian banks were reporting that during 1995, when 30% of Russia's
commercial banks posted losses, Inkombank's financial performance improved. (Capital
Market Report. August 1, 1996). In November 1995, the BBC reported that for the first
nine months of the year Inkombank reportedly continued to post better-than-average
profits, making it the second most profitable bank in Russia. (British Broadcasting
Corporation. November 30, 1995; Moscow News. November 24, 1995). By the end of
1995, Inkombank was ranked as one of the world's largest 1,000 banks, with $2 billion in
assets. For 1996, while its profitability was lower, Inkombank still reportedly generated
higher earnings than any major bank in Russia.

399

THE BANK OF NEW YORK

U.S. House of Rqjresentatives

BNY's Reaction to Questions Raised
by Russian Bank Regulators

During the first half of 1996, the Moscow regional department of Russia's
Central Bank conducted a routine examination of Inkombank. According to
contemporaneous press accounts, a draft of the preliminary report raised questions about
mistakes in "the conduct of [Inkombank's] operations and accounting." (PR Newswire.
July 12, 1996). In a statement attributed to the Central Bank's Chairman, these
"preliminary conclusions were 'leaked out' before" the Central Bank could consider
Inkombank's response. This was followed by rumors that Inkombank was experiencing
liquidity problems.

Following the leaks and rumors, the Central Bank issued numerous public
statements of confidence in Inkombank. On July 10, 1996, the Central Bank's First
Deputy Chairman, Alexandr Khandruev, publicly denounced the liquidity rumors as
"false," announced an internal investigation into the source of the leaks, and assured the
market that Inkombank was continuing to "fulfill its obligations [to its] clients" and
maintained "a soUd viability margin." (PR Newswire. July 12, 1996). Central Bank
Chairman Sergey Dubinin later publicly stated "that Inkombank's position today is
sufficiently stable."

On July 12, 1996, the PR Newswire reported that:

"The final version of the inspection report of the Central Bank
presented to Inkombank on July 9, 1996, reads: 'Information
presented herewith warrants a conclusion that the Bank is actively
controlling liquidity and profitability, ensures high stability of
operations and is capable of performing in full its obligations
before its depositors and creditors.'

At the same time, the final document contains a number of
criticisms related to bookkeeping in Inkombank arising from the
differences between Russian and international accounting
standards and from contradictions within Russian legislation and

400

THE BANK OF NEW YORK

U.S. House of Rqjresentatives

regulations. These bookkeeping errors, however, do not affect the
Bank's performance."

The report went on to observe that the Main Administration of the Central Bank and
Inkombank point out that "since the beginning of 1996, the accounting policy of the Bank
has demonstrated improvement and the majority of pre-existing bookkeeping deficiencies
have been eliminated." Qd.).

Throughout July 1996, BNY was closely following developments at
Inkombank. Employees in our Eastern European Division ("EED") were the principal
bank employees directly and continuously in discussions with Inkombank's management
about its response to concerns raised in the Central Bank's audit and the press. The BNY
employees working on Inkombank's ADR program were kept apprised of these
developments and were satisfied with the close monitoring of Inkombank's progress.

The EED employees were provided with copies of the unfolding press
coverage of its audit, the Central Bank's statements expressing continued confidence in
Inkombank, and Inkombank management's detailed responses to the Central Bank
examiners' questions about its operations and accounting practices. This information
showed, among other things, that Inkombank's responses to the Central Bank's audit had
been reviewed and summarized by KPMG, Inkombank's external auditors.

Inkombank provided BNY with current information about its financial
condition, updated through the first half of 1996. Inkombank also provided BNY with a
copy of KPMG's letter commenting on management's opinion "that the observations and
recommendations set out in the letter of July 15, 1996 to [Inkombank] fi-om the Moscow
Main Territorial Department (the "MMTD") of the Central Bank of Russia do not have
any effect on the accounts of the Bank as of 31st December 1995 and for the year then
ended prepared in accordance with International Accounting Standards" (the "IAS")

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THE BANK OF NEW YORK

U.S. House of Rqiresentatives

(emphasis added). Based on its review of the Central Bank's examination report, KPMG
concluded that "nothing came to our attention which would have caused us to revise as at
24th March 1996 our audit opinion in the IAS accounts for the year to 31st December
1995."

The Central Bank confirmed that Inkombank's liquidity never fell below
statutory minimums, but, rather, had been improving since October 1995. Other
independent research analysts reached the same conclusion. Standard & Poor's, the
credit rating agency, observed that "[t]he bank survived and has flourished." (S&P.
December 1997). Bank Watch, which is also an independent credit rating service, also
concluded that Inkombank's "liquidity [was] adequate and strengthening though it
remains vulnerable. . . ." (BankWatch. August 14, 1996).

BNY's Ongoing Scrutiny of
Inkombank's Financial Condition

In 1996, Inkombank had unsecured lines of credit with BNY and a
substantial correspondent banking relationship that included funds transfer, trade
services, foreign exchange and investment management. Given our exposure to
Inkombank, BNY continued to follow developments affecting Inkombank's financial
condition. After the events of July 1996, BNY's International Credit Committee was
frequently called upon to assess Inkombank's creditworthiness, which included both a
risk profile and credit analysis of Inkombank. Based on our continued review of its
financial strengths, BNY extended credit to Inkombank time and time again:

• In November 1996, BNY's Credit Committee considered and
approved a S10.6 million commercial line of credit for Inkombank,
which was guaranteed by U.S. Eximbank.

• In March 1997, the Credit Committee considered and approved
BNY's $1 million participation in a $25 million syndicated term
loan to Inkombank, which was arranged by Bank Austria and in

402

THE BANK OF NEW YORK

U.S. House of Representatives

which other Western banks participated. The loan syndication
turned out to be oversubscribed, and closed at $27 million.
Inkombank repaid the loan according to its terms at maturity in
March 1998.

• In June 1997, the Credit Committee considered and approved
(i) increasing Inkombank's short-term trade finance faciUty from
$10 to $15 million; (ii) increasing its foreign exchange limits from
$20 to $30 million; and (iii) extending Inkombank a $5 milhon
currency deposit line.

• In August 1997, the Credit Committee considered and approved
increasing Inkombank's foreign exchange facilities from $30 to
$50 million.

In our appraisal of Inkombank, BNY also looked to and rehed upon the

assessment of independent credit rating services, which continued to look upon

Inkombank favorably. Some rating agencies covering Russian banks continued to assign

favorable credit ratings to Inkombank:*

IBCA BB/B

Standard & Poor's B+

Thomson BankWatch C/D

Indeed, Standard & Poor's maintained a B+/Stable credit rating for Inkombank until May
1998, when it put seven Russian banks (including Inkombank) on Credit Watch. In its
December 1997 rating analysis, S&P concluded that Inkombank's "risk profile
compare[d] favorably with that of its peers" because Inkombank had less related-party
exposure; had a superior banking infrastructure; had less equity risk than major rated
banks and was more transparent; was less political than its peers; and was the most
important retail presence in Russia, after state-owned Sberbank.

At the end of 1996, the Russian Federation was assigned sovereign foreign
currency credit ratings of Ba2/Ba3 by Moody's Investor Service.

403

THE BANK OF NEW YOKK

U.S. House of Representatives

Inkombank Was a Victim of
Russia's Economic Turmoil.

In establishing its ADR Program, Inkombank was represented by
reputable U.S. counsel, Powell, Goldstein, Frazer & Murphy, who had the primary
responsibiUty for satisfying the necessary legal preconditions under the U.S. securities
laws for Inkombank' s exemption from Exchange Act reporting, provided under
Rule 12g3-2(b), by furnishing to the SEC, among other things, copies of Inkombank's
Annual Report and Financial Statements. When the SEC was satisfied that Inkombank's
information was complete, it notified Inkombank that its 12g3-2(b) exemption was
"perfected" and that its Level I ADR could be established. Once the preconditions were
satisfied, BNY and Inkombank negotiated the terms of a deposit agreement, the document
governing the rights of Inkombank, BNY and the ADR holders, which was submitted to
the SEC as part of Inkombank's Form F-6 filing. In the final deposit agreement, BNY
and its counsel reflected the SEC staffs comments.

Inkombank was also required to obtain approval fix)m the Central Bank of
Russia to establish its Level I ADR program. The Central Bank required that Inkombank
provide it with, among other things, proof of the SEC's action. The SEC declared
Inkombank's ADR registration statement effective in May 1996, and the Central Bank
gave its approval in November 1996 ~ well after the Central Bank's audit in July 1996.

In May 1998, when Standard & Poor's put Inkombank and six other
Russian banks on Credit Watch, it forecast that "[a] precipitous drop in the rouble would
spell disaster for the banking system as a whole." In July 1998, S&P lowered its rating
for Inkombank (and for five other Russian banks) from "B+" to "B" because the
economic weakness, which began in October 1997, had intensified. In S&P's words, this
created "risks of a systemic crisis." In August 1998, S&P lowered Inkombank's rating to
"CCC to "reflect the precipitous deterioration of market conditions in Russia, owing to a
severe confidence crisis, and the drying up of liquidity sources of the Russian banks. . . ."

404

THE BANK OF NEW YORK

U.S. House of Representatives

By September 1998, the threat of imminent defaults, from what S&P termed a "profound
crisis" in the Russian banking sector due to the "sharp depreciation in the rouble," forced
S&P to further lower Inkombank's rating.

Inkombank was bankrupted by the sharp collapse of the Russian rouble
that ensued after the currency was devalued in August 1998 and the government defaulted
on short-term treasury bills. Inkombank's ultimate demise had nothing to do with events
in mid- 1996, which were more than two years before the Russian rouble crisis took its
toll on Inkombank.

Sincerely yours.

%,h M. Velli
cc: Congressman Edward Royce

405

WRITTEN STATEMENT OF REPUBLIC NATIONAL BANK OF NEW YORK

ANNE T. VITALE
Managing Director and Deputy General Counsel

Before

THE COMMITTEE ON BANKING AND FINANCIAL SERVICES

THE U.S. HOUSE OF REPRESENTATIVES

September 22, 1999

406

Mr. Chainnan and Members of the Committee:

On behalf of Republic National Bank of New York, I would like to thank you for
inviting me to appear at today's hearing. I am a Managing Director and Deputy General
Counsel of Republic, where I have been employed for nine years. As part of my duties at
Republic, I am responsible for the development Republic's global anti-money laundering
policy. Prior to joining Republic, I served as an Assistant United States Attorney for the
Southern District of New York where I prosecuted money laundering, narcotics and
organized crime cases.

Republic supports the efforts you have made in discussing how financial
institutions can protect themselves from attempts to launder money through the use of the
international wire transfer payment system.

Republic is committed to making every effort to ensure that its banks around the
world are not being used for illegitimate purposes. I am here to share with you the
policies and procedures that Republic has developed in order to achieve that goal with
respect to international wire transfer activity.

As a preliminary matter, all international dollar wire transfers, no matter where
they originate, must pass through a bank account in the United States. For the most part,
such wire transfers pass through the accounts of foreign banks. These foreign banks
maintain bank accounts in their own names at banks in the United States. Bank accounts
in the name of one financial institution, \^ch are opened at another financial institution,
are one aspect of what is commonly referred to as Correspondent Banking.

407

Correspondent Banking also includes trading activities, credit relationships and other
bank to bank activities.

Before a correspondent account is opened at Republic, Republic obtains
information about the foreign bank, which is detailed in a seven-page questionnaire, a
copy of which I have attached to this statement. The information that Republic obtains
includes the names of the owners and managers of the bank; its asset size; the identity of
the bank's regulatory supervisor; and a description of the procedures the foreign bank
employs to know their customers.

The total volume of U.S. dollar wire transfers processed each day is staggering in
terms of both the number of transfers and the dollar amounts. For example, on any given
day over 600,000 transfers amounting to over two trillion dollars are processed through
U.S. banks each day. Because of such a high volume of activity, it is indeed difficult, if
not impossible to review a large proportion of these transfers. The challenge is to
develop profiles of suspicious activity and design systems to capture data that falls within
the defined parameters.

Republic began the process of designing such systems in late 1997. In substance,
Republic's system filters out certain transfers and captures patterns of transactions, which
meet or exceed selected thresholds. We then j^ply the combined judgment of the
members of our Know Your Customer Committee to determine whether certain activity
may be suspicious. Republic is proud of its initiative in developing its wire transfer
monitoring system for correspondent banking. We believe that it is unmatched in the
industry. As stated in a letter that Republic's Chairman received from the FBI,
Republic's Wire Transfer Monitoring System was found to be "highly effective in

408

detecting wire transfer patterns indicating possible illegal activity." The FBI letter is
attached as an exhibit to this statement.

There are basically two types of wire transfers through correspondent accounts.
The first type is a bank to bank transfer in which a foreign bank is making or receiving a
payment for its own account, for example to settle a foreign exchange contract with its
correspondent bank. There are approximately 92,000 bank to bank wire transfers totaling
$306 billion in an average month at Republic. Republic's examination of bank to bank
transfers has not resulted in uncovering any significant pattern of activity that was
suggestive of suspicious activity. For this reason, Republic excludes bank to bank
transfers from its monitoring program.

The second and more critical type of wire transfer is a third-party transaction in
which the foreign bank is making or receiving a payment for the benefit of one of its
customers. There are approximately 58,000 third-party customer wire transfers totaling
$65 billion in an average month at Republic. Republic has focused on these third-party
wire transfers in its monitoring program.

Commonly, the role of the bank in the United States is an intermediary one. A
customer of a foreign bank, ABC Company, has an account at XYZ Foreign Bank. XYZ
Foreign Bank has an account at Republic. ABC Company wants to send a wire transfer
in the amount of $1,000,000 to DEF Company, which has an account at USA Bank.
USA Bank also has an account at Republic. In this scenario, you have five entities in the
flow of funds:

Originator: ABC Company

Originator's Bank: XYZ Foreign Bank

409

Intermediary Bank: Republic

Beneficiary's Bank: USA Bank

Beneficiary: DEF Company

In this example. Republic does not have the account of either the Originator or the
Beneficiary, but rather serves as an intermediary bank. Nonetheless, when the flow of
funds between ABC Company and DEF Company is significant in terms of number of
transfers and dollar amounts, Republic seeks to capture the data.

In order to produce a report that was manageable size and quantity of information.
Republic set thresholds for the type of activity that is to be captured. After trying various
approaches. Republic designed the system to capture the following data:

• Same Originator to Same Beneficiary 3 times a month with Dollar amount
greater than or equal to $500,000

• Same Originator to Different Beneficiaries 10 times a month with Dollar amount
greater than or equal to $500,000

• Different Originators to Same Beneficiary 10 times a month with Dollar amount
greater than or equal to $500,000

It should be noted that there is nothing magical about the number of occurrences or
the dollar threshold, which Republic has selected. Indeed, Republic varies these numbers
as it continues to monitor its accounts. (See attached exhibit, which more fiilly describes
Republic's wire transfer-monitoring system.)

Once a pattern is identified. Republic checks databases to see if there is public
information available about the Originator or Beneficiary that would support the
legitimacy of the amounts and pattern of the wire transfers. For example, if Republic

410

discovered information that established that an Originator was a publicly traded company
having business activities consistent with the amounts and geography of the transfer.
Republic would document this information and take no further action.

If, however. Republic has not been able to discover anything about the Originator
or Beneficiary that would seem to justify the activity and volume. Republic would
contact the Originator's or Beneficiary's bank and inquire about the purpose of the
transfer. Additionally Republic would inquire about the business in which the parties to
the transfer are engaged. If the correspondent bank provides the information, the Know
Your Customer Committee would evaluate the explanation and determine whether it
sufficed.

In August 1998, the programming generated a monthly report for the wire transfer
activity through correspondent banks in July. This report identified the accounts of
Republic's correspondent banks, which had patterns of activity that met the thresholds
that I have previously described.

In August 1 998, as a result of its wire transfer monitoring. Republic discovered
that substantial amounts of funds were being transferred fi'om one particular Originator to
four Beneficiaries. From the information supplied in the wire transfer message, it
appeared that the Originator was a corporation, which had an account at a Russian Bank.
The Rtissian Bank had an account at Republic and the four Beneficiaries had accounts at
three other U.S. banks located in New York City. One of the four beneficiaries was
Benex, which had an account at Bank of New York. In one month, the total amount of
the wire transfers from the common Originator to the four Beneficiaries was
approximately S22 million.

411

Republic was unable to determine any particulars about the one Originator and
four Beneficiaries other than that information on the wire transfers indicated that one
beneficiary, Benex, was located at 118-21 Queens Blvd. Forest Hills, New York. After
sending an investigator to this address. Republic was unable to confirm that Benex was in
fact located there. Republic informed the FBI and other authorities about the wire
activity that I have described in August 1998.

Since August 1998, Republic has continued to monitor for patterns of significant
activity that may be suspicious. It has reviewed the patterns that are identified by its
systems and documents its determinations resulting from its reviews. If Republic is able
to obtain information that seems to justify the wire transfer activity, it takes no action. If
Republic is not able to obtain such information, it reports the transactions to the
eqipropriate authorities. In some instances, Republic will cease processing transactions
that appear suspicious by informing its correspondent bank that it will no longer process
such transactions. At other times. Republic has ceased processing transactions with
certain offshore havens. In yet other instances. Republic has terminated its relationship
with specific correspondent banks.

The decisions that the Know Your Customer Committee makes are by no means
infallible. They are based on judgment calls, which I believe are supported by
independent factors. They are the result of the Committees best efforts to detect, report
and prevent proceeds fiom suspicious activities from passing through our banks.

In addition to the procedures in effect in the correspondent banking department.
Republic has policies and procedures in place in each of its business areas. Republic has
had a written global corporate Know Your Customer Policy since 1992, which provides

412

the framework for its anti-money laundering efforts. I have included a copy of that
Pohcy as an exhibit.

I hope that I have conveyed to you the importance that Republic places on its anti-
money laundering efforts. In the course of my nine years at Republic, Senior
Management has been committed to prevent the use of its banks as a vehicle to launder
the proceeds of illegal activity. The Chairman, Mr. Schlein, and his predecessor, Mr.
Weiner, have been staunch supporters of implementing the Know Your Customer Policy
in all departments in all locations. Indeed, their commitment reflects the views of
Republic's principal shareholder and founder, Mr. Edmond Safra, who has repeatedly
encouraged our efforts and stressed the need for ongoing training in this area. Two years
ago, at his initiative. Republic convened a two-day Anti-Money Laundering seminar for
1 70 of our Senior Private Banking Officers from all Republic locations. Annually we
hold training classes for our officers and support persoimel. Adherence to Know Your
Customer Policy is tested in our audits.

Finally, Republic has a policy of cooperating fully with our regulators, law
enforcement, and as you can judge by my presence here, with Congress. I am happy to
answer any questions that you have.

413

ATTACHMENTS TO THE WRITTEN STATEMENT OF REPUBLIC NATIONAL BANK OF

NEW YORK

ANNE T. VITALE
Managing Director and Deputy General Counsel

Before
THE COMMITTEE ON BANKING AND FINANCIAL SERVICES

THE U.S. HOUSE OF REPRESENTATIVES

September 22, 1999

414

U.S. Dcpartmcai of JimUcc

Federal Buicni of Investigitioii

iiiRtpir.ptnHbttr B 2« Federal Plaza

"""o New York, New York 10278

Aixgust S, 1999

Mr. Dov Schlein
Chairman o! the Board
Republic National Bank
452 Fifch Avenue
New York, NY 10018

Dear Mr. Schlein:

I wish CO express my sincere appreciacion co /Mae
V;,cale, Managing Director and Deputy General Counsel, and Anne
Liddy, First Vice President, for their assistance to the New York
Office of the Federal Bureau of Investigation in an ongoing major
money laundering investigation. This investigation was Initiated
primarily as a result of Suspicious Activity Reports (SARS) filed
by Republic National Bank.

During the course of this investigation, we have found
Republic's Wire Transfer Monitoring System (HTMS), which was
developed by Ma. Vitale and Ms. Liddy, to be highly effective in
detecting wire transfer patterns indicating possible illegal
activity. This system can generate reports in various formats
tailored to the needs of the investigator, which makes it an
effective tool for SAR follow-up investigations.

In summary, the assistance provided by Republic
National Bank is much appreciated and we look forward to its
cooperation in the future.

Sincerely yours.

LEWIS D. SHILIRO

Assistant Director in Charge

By>'

RAYMOND C. KERR, JR.
Supervisory Special Agene

415

Lfil lnvwtl««tW« Dnnrtment
Wlr« Traiwftr Revtew Guldtllnw for Inccmatlonal CorrCTPondtnt B»nkint

I. Generate the Monthly High Profile Pattern Summary report. This report shows correspondent banking accounts having wire
transactions meeting any of the following monitoring criteria:

• Originator and Beneficiary patterns with > ' 3 transactions and Total Amount > a S500.000-.

• Originator and Beneficiary panems with only one transaction and Toul Amount > • SSOO.OOO:

• Originator or Beneficiary panems with > ' 10 transactions and Total Amount > > SSOO.OOO.

Note: All wire monitoring reports capture only customer (ie: 3"* party) wire transfers. Bank to bank wire
transfers are not captured in the reports.

2. Generate and review the Monthly High Profile Pattern Detail reports for correspondent accounts appearing on the Monthly
High Profile Pattern Summary report. These reports include details of the wire transfer patterns, such as transaction date, amount
in / amount out, originator, beneficiary, originator's bank, sending bank, intermediary bank, and beneficiary's bank.

Note: Detail pattern reports are reviewed for all correspondent accounts within Russia. NIS Countries, the
Baltic States. Asia Pacific. Middle East, and Latin America. Deuil pattern reports for correspondent accounts
within FATF countries, with the exception of Greece and Turkey, are not reviewed.

3. From information provided on the Monthly High Profile Pattern Detail reports determine which party (originator or
beneficiary) is a customer of our correspondent bank. Run this party name through Lexis-Nexis and the Internet. If
information is obtained, review in conjunction with wire activity patterns to determine if activity makes sense. If no
information is obtained, or a determination cannot be made, forward the detail pattern report to the appropriate account
ofTicer.

4. Account officer will contact our correspondent bank and ask the following questions:

• What is the type of business of the company or source of wealth of an individual?

• Where is the company or individual located?

• What is the reason for the transfer?

Particular anention is paid to (i) the path of the wire transfer, (li) transfers involving red flag countries or sensitive
locations in the U.S.. (iii) transfers involving trading companies, investment companies, and nominee companies, (iv)
misspellings of originator and / or beneficiary names.

5. Explanations for the wire activity patterns are presented weekly at the International Correspondent Banking Know
Your Customer Comminee meeting. Explanations are either accepted, rejected, or pended. If an explanation is rejected
the account may be dosed, wire activity involving that particular party may be suspended, and/or a Suspicious Activity
Report filed. An explanation may also be pended by the cotiunittee for various reasons, including unceruinty u to
nature of business of. for example, an export import company. In these instances the account officer must obuin more
specific information from our correspondent bank. If sufficient information is not obtained, the comminee may decide
to take action as noted above.

6. Originator and Beneficiary patterns vrith only one transaction and Total Amount > > SSOO.OOO are not presented to
the International Correspondent Banking Know Your Customer Committee unless red flags are apparent, such as (i) a
circuitous path, (ii) occurring within a red flag ctMimry. or (iii) an unusually large dollar amoum. Rather, the originator
or beneficiary is placed on an ~0n Watch" sutus. If the originator or beneficiary appears on the Monthly High Profile
Pattern Summary report three times vrithin a six month period, the name and associated patterns are given to the
account officer to obuin explanation from the correspondent bank. Resulu are then picsettted to the International
Correspondent Banking Know Your Customer Committee for review.

416

Originally issued:

October 22. 1992

Revised:

March, 1999

KNOW YOUR CUSTOMER
POLICY STATEMENT

417

IIMTRODUCTION

Report Suspicious
Activity

Commitment to
Compliance

Compliance Duties of
Each Employee

RepubUc New York Corporation (Republic) has built u »ulid
reputation as a safe and strong banking institution, follow-
ing conservative banking principles and a fundamental
goal of protecting depositors* funds. However, there ran be no
safety of funds without the safety of the institution itself. In chart-
ing Republic's course into the twenty-first century, the board of
directors and senior management are dedicated to maintaining
Republic's reputation as a premier international banking organiza-
tion. To this end, we are as concerned about compliance with laws
and regulations as we are about profits.

In today's world, there is an increasing international dimension of
organized criminal activity, which threatens financial institutions.
Fraudulent schemes, theft, counterfeiting and most particularly,
drug dealing and money laundering, weaken the reputation and
standing of a financial institution. All efforts must be made to
detect and thwart suspicious activity at the earliest stages. Suspi-
cious activity, when discovered, must be reported to senior manage-
ment, legal counsel, and compUance for appropriate action.

Republic is strongly committed to preventing the use of its world-
wide operations for criminal purposes and to cooperating with
appropriate authorities in efforts to stop any person from misusing
the banking system. The best way to ftilfill this commitment and
ensure the safety of the institution is to know our customers, moni-
tor transactions and train all personnel.

Republic has estabUshed a strong compUance program that has
been approved by the board of directors. This program is to be
implemented at all levels and subject to periodic reviews. The
board of directors and senior management will be kept abreast of
compliance efforts through regular reports by the audit, compli-
ance and legal departments.

CompUance expectations are to be included in the job descriptions
and performance standards of tellers, branch managers, platform
employees, lending, account and marketing officers, traders, repre-
sentative office employees, consultants, operations personnel and
management.

This manual is designed to formalize the Know Your Customer
poUcy and procedures for preventing the use of our banks as ve-
hicles for money laundering and for the other illegal activities listed
above. CompUance with these corporate poUcies and procedures is
a condition of employment. These practices are mandatory.

Failure to adhere to these principles may result in disciplinary
action, diminished compensation or termination of employment.

418

INTERNATIONAL

EFFORTS TO

COMBAT

MONEY

LAUNDERING

Stages of
Laundering

Uability of
Employees

The issue of how to prevent individuals from laundering the pro-
ceeds of illegal arti>-itie8 through the fmanrial system has attracted
substantial attention from legislative authorities, law enforcement
agencies, banking regulators and the press in a number of coun-
tries.

Throughout the world, nations have enacted laws and regulations
which criminalize the laundering of money derived from drug
trafTicking and other illegal activities. In some countries, legisla-
tion has been enacted whereby governments may seize and forfeit
assets and property which represent the proceeds of these activi-
ties. Numerous regulatory and enforcement measures, as well as
reporting requirements, have been implemented or proposed in an
effort to limit money laundering. Moreover, the international press
has pubUcized the fact that vast amounts of money emanating from
drug trafficking has infiltrated the banking system and has criti-
cized financial institutions for their failure to detect and prevent
criminal activity.

In response to the focus of the international community, money
launderers have become more and more sophisticated in their
techniques. Consequently, it is critical for us to understand chang-
ing regulatory requirements and sophisticated money laundering
schemes as well as to implement effective procedures to know our
customers and monitor their transactions. Basically, the money
. laundering process involves three stages:

• Placement — the physical disposal of cash proceeds derived from
illegal activity

• Layering — separating illicit proceeds from their source by creat-
ing complex layers of Anancial transactions designed to hamper
the audit trail, disguise the origin of such funds and provide
anonymity to their owners

• Integration — placing the laundered proceeds back into the
economy in such a way that they re-enter the financial system
appearing to be legitimate business funds.

Having identified these stages of the money laundering process, law
enforcement agencies and bank regulators require financial institu-
tions to adopt procedures to guard against and, in some countries,
report suspicious transactions that occur at each stage.

Employees and the bank itself are subject to criminal and civil
penalties, which include imprisonment, fines, forfeiture of assets,
and the revocation of the bank's charter if the bank fails to develop
and adhere to poUcies to know its customers and avoid doing busi-
ness with individuab involved in illegal activities.

Every employee must be mindful that such criminal Uability may be
imposed on the individual and the bank if either is willfully blind to
suspicious activity or should have known that activity was suspi-
cious. These standards are very strict and may result in both the
employee and the bank being (ined and/or prosecuted.

This manual contains Republic's poUcy and procedures, which
when followed, will enable us to be duly diligent in preventing the
use of our institution for criminal purposes.

419

OBJECTIVES OF

THE KNOW

YOUR

CUSTOMER

POLICY

Identification
Procedures

Monitoring
Procedures

Training Procedures

The Know Your Customer policy increases the UkelihtKxl that the
bank is in compliance with established laws and regulations and
decreases the likeUhood that the bank will become a victim of fraud
or illegal activities. Moreover, this policy protects the good name of
the bank without interfering with good customer relationships.

First, comprehensive procedures for opening accounts, establishing
loan and other business relationships, and conducting transactions
with non-account holders must be developed and implemented in
each RepubUc location. Inherent in the procedures is the principle
that Republic know the true identity of all customers, including
beneficial owners, requesting any of the bank's services. Identifica-
tion must be verified to prevent estabUshment of accounts for
fictitious beneficiaries.

In addition to knowing the identity of the customer, it is of para-
mount importance to know the customer's business or professional
activities, sources of the customer's income, wealth or assets, and
the particular source of the funds which are the subject of transac-
tions at the bank. An additional objective is to enable the financial
institution to predict with relative certainty the types of transac-
tions normally expected to be engaged in by a customer.

Second, internal systems must be in place for monitoring transac-
tions which are inconsistent with each customer's transaction
profile.

Third, educational programs should be held annually and on an
ongoing basis to review the practices of RepubUc. the laws of the
location, and the transactions of customers that may warrant
investigation.

420

CUSTOMER
CATEGORIES

The following customers will not be accepted:

• Custoin<*rs whotif chararter. tntegritv. or honr!it>' arc qiiestion-
aLle.

Ple€ise note that
banks are the only
customers approved
for banknote transac-
tions. Any non-bank
banknote customer
must have the ap-
proval of head office
management.

Approved of head
office management is
defined (u the unani-
mous consent to a
written submission by
the division head,
chairman of the
board, and chairper-
son of the executive
Know Your Customer
committee in New
York.

OTHER

CUSTOMER

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Full text of "Russian money laundering : hearings before the Committee on Banking and Financial Services, U.S. House of Representatives, One Hundred Sixth Congress, first session, September 21, 22, 1999"

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